Online Extra: Eastern Europe's World-Class Brainpower

The region is luring foreign R&D investment not just with low costs but with quality scientists and technicians

At a trade show on mobile-phone technology in Cannes, France, last February, Finland's Nokia showed off what the next generation of wireless systems might do using its "all-IP architecture." That's a sophisticated body of software that could allow mobile networks to deliver voice and data -- from maps and spreadsheets to photos and videos -- to the wireless gizmo in your pocket at speeds rivaling today's broadband Internet connections.

While Nokia execs took the credit, a group of programmers in Hungary were quietly feeling very satisfied. Most of the work on the new platform was done not in Finland, but at Nokia's R&D site in Budapest, where nearly 400 engineers toil on software projects.

Nokia isn't alone in drawing from Eastern Europe. From startup software houses to multinationals developing new industrial technologies and applications, several foreign investors are tapping the region's abundant brainpower. That's critical for the eight formerly communist countries headed for European Union membership by the end of 2004. Since the Berlin Wall fell, foreign investment has been the life blood of the new economies that emerged from the old Soviet Bloc.


  But the investment landscape is changing. Wages are rising fast, and that means manufacturing and assembly will gradually play a smaller role in sustaining these economies. Across the region, officials and economists are chanting the same mantra: We've got to move up the value chain. "This is a serious challenge for these economies," says Tomas Vyskocil, an economic analyst for Czech brokerage Wood & Co. "They've got to start contributing higher value-added."

And these countries are off to a good start. Because education, especially in science and mathematics, remained solid through the communist era, several nations already have a track record of producing highly valued research and development. New investors are now harnessing it for the private sector. In telecom R&D, Nokia is joined by Ericsson in Hungary and Seimens in the Czech Republic. American high-tech giant Honeywell has one of its six R&D centers in Prague.

Pharmaceutical companies are also active. GlaxoSmithKline has scientists working on new drugs in Poland, and Novartis has made an offer to buy Slovenian drugs group Lek, partly because of its strength in developing new products.


  Then there's General Electric. In the conglomerate's lighting division, Hungarian scientists are working to improve the use of materials like tungsten and phosphorous and boost technologies used in fluorescent lamps. GE Medical Systems has invested in an R&D center in Budapest that specializes in the technology behind diagnostics equipment like x-ray machines and MRIs.

The R&D crowd isn't just Western multinationals, either. Small to midsize foreign-backed software developers that handle outsourced programming projects have sprouted wildly across the region. Even Indian software house Tata, which usually draws business to the subcontinent, has hired about 60 programmers at a new office in Budapest.

R&D costs in Eastern Europe are, like manufacturing costs, lower than in the West. But that plays a smaller role in the corporate decisions to invest. For one, the cost gap is narrowing with the West. According to Risto Enbusko, head of Nokia's R&D center in Budapest, software engineers in Eastern Europe come at only a 10% to 20% discount to their Western European counterparts. And with so much at stake, corporations that rely on R&D tend not to squeeze costs there like they do in production. "It's not about cheap labor. We opened an R&D center in 2001 in Mountain View, Calif. It's about quality engineers," says Enbusko.


  Can Eastern Europe keep this ball rolling? Some are worried when they look to the future. Jan Svejnar, a Czech native and professor of business economics and public policy at the University of Michigan, says while most sectors in Eastern Europe have been restructured over the last decade, education has been badly neglected. As a result, the best young teachers and graduate students are increasingly going abroad or to the private sector. "This edge we have will be diminished, and we won't be generating the next generation of qualified young people unless there's reform," he says.

But it's not just about colleges' lack of money. In addition to investment, Svejnar believes Eastern European universities need competition to improve their offerings. He recommends accrediting more private and foreign universities. That will frighten those who are running state universities, but it's a small price to pay to keep investors on the prowl for the best minds in the East.

By Christopher Condon in Budapest

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