When President Clinton and more than 50 other world leaders attend a summit on Balkans peace here this Friday, they will see a city with a partly reconstructed face.

Shrapnel damage from the 1992-95 war has been largely plastered over in the rebuilt old town, where residents flock to outdoor summer music festivals and the balconies of apartment buildings reveal satellite television dishes aimed toward the hills that used to hide Bosnian Serb gunners. Even the Holiday Inn, once a symbol of Sarajevo's devastation, looks brand-new.

What the leaders will not see, however, is the rampant corruption, the rake-offs and inefficiency at all levels of government; the crippling taxation that drives most businesses underground and completely discourages foreign investment; or a financial system so backward that banks cannot make loans and credit cards are not accepted anywhere.

As the West embarks on the ambitious rebuilding of nearby Kosovo, Bosnia stands as a model--of how not to do it. Over the past 3 1/2 years, a spider's web of international institutions trapped in internal bickering has failed to push through any program to assist the recovery and modernization of Bosnia's economy.

"We have an expression here: A smart man learns from others' mistakes," said Nedelko Despotovic, an independent government minister. "I think people from Kosovo should come here to research how we implemented our reconstruction projects. And we can say, do not make the same mistakes we made."

The lessons are particularly relevant now as the European Union calls for a comprehensive strategy to bring economic reform to the Balkans--from Kosovo, the war-ravaged Serbian province, and the Yugoslav republic of Montenegro, to such neighboring states as Albania and Macedonia. The goal, which the leaders are expected to embrace at the Sarajevo summit, is to reform and modernize the region's economies, not just repair its roads, airports and buildings.

This is precisely what has not occurred in Bosnia. The economy here is a disaster, with unemployment in the half of the country that comprises the Muslim-Croat Federation running at 30 to 50 percent. Unemployment is even higher in the Bosnian Serb Republic, the other half. Although progress has been made, much repair work has been left undone. Some apartment buildings with satellite dishes protruding from one side have burn and blast damage on the other. Lack of housing is one of the major factors hindering the return of refugees.

The only decent jobs for local residents are with international organizations, which employ 15,000 people in this capital city and are virtually the only source of economic growth in Bosnia. The single economic success is a stable currency, freely convertible with the German mark, but it is not a local creation. The system was designed by the U.S. Treasury, and the central bank that manages it is run by a New Zealander. Foreign investors still avoid Bosnia. McDonald's, for example, recently decided against opening an outlet here.

This is private enterprise in Bosnia: In the Sarajevo suburb of Vogosca, 60 workers perform final assembly on car bodies that have been shipped from the Skoda auto works in the Czech Republic. They are putting together parts from a kit, not making cars, and they turn out barely 2,000 bodies a year. Volkswagen, under gentle pressure from the German government, is determined to try to make the plant into a full-fledged manufacturing facility. But that is impossible under current conditions.

Plant director Klaus Dieter Steinbach listed the changes necessary to make this a viable business. The 82 percent tax on salaries must come down. The Bosnia partner company--it is more or less obligatory here to have one--must pay the $1 million it has owed Volkswagen for a year. Total payments so far: $2,400.

Most important, Steinbach and others say, is for the government to get rid "payment bureaus," the three ethnically aligned offices through which all financial transactions must pass, often with some of the funds skimmed off in the process. The payment bureaus make it impossible for banks to operate efficiently.

"You can't start any private activity because the old structures are still in force, and they will fight against any new losses. And the government only wants to get the foreign money and distribute it," Steinbach said.

Bosnia would have been difficult to revive even under the guidance of the most prescient international advisers and the most progressive and united government. In 1996, when the Dayton peace agreement came into effect, the country was in ruins, politically divided and economically defunct. Much early effort on the civilian side was spent on material repairs, and much less on creating an economy that can stand on its own.

"The same foreigners who created the stable currency did not create an atmosphere that was conducive to private investment," said Robert L. Barry, head of the Bosnia mission of the 55-nation Organization for Security and Cooperation in Europe.

He and others agree that elections were held in Bosnia too early; under U.S. pressure they were scheduled only a few months after the Dayton peace deal was signed. The winners from the Bosnian Croat, Serb and Muslim communities were the same politicians who, for the most part, had been in power during the war. One of them, Momcilo Krajisnik, the Serb representative on Bosnia's three-member collective presidency, was particularly obstructionist until he was defeated in a 1998 election.

International officials say that even now none of Bosnia's leaders has sufficient appetite for reform. In hindsight, some have concluded that a protectorate should have been formed before elections took place and economic reforms imposed from the top down. In August, a report by the International Crisis Group, a Balkans research organization, will recommend that the existing system be scrapped in favor of a protectorate.

"Current policies are not working," said James Lyon, an analyst with the crisis group. "They need to turn Bosnia into a protectorate and not have elections for three to five years."

Some Bosnian government officials agree that reform is needed but point out that the internationally managed reconstruction effort has often been marked by confusion and poor planning.

Despotovic, the government minister, recalled that in the early days after the war, government members could easily hold reconstruction meetings all day long. "At 9 a.m. the World Bank, then USAID [U.S. Agency for International Development] at 11, the EU at 1 and the German reconstruction agency at 3. Each was looking at different projects, and each meeting required different preparation," he said.

"The international community tried so many things in Bosnia, [that] I often say they should have tried it on mice first," said Mirza Hajric, an adviser to Bosnian co-president Alija Izbetovic. He pointed out that it is unfair to criticize the government for not creating free-market conditions when hardly anyone from the old regime even knew what they were. "We are not just switching from war to peace," he said. "We are switching from communism to democracy. People forget that."

As a result, Bosnia's economic modernization is lagging at a time when other countries in the region are moving ahead, including Slovenia and Croatia, the two other republics that broke away from the old Yugoslav federation amid much bloodshed earlier this decade.

"The world has changed around Bosnia-Herzegovina," said Elaine Patterson, deputy director of the World Bank mission here. "Everyone else is in a transition mode. We have lost a lot of time."

Reconstructing Bosnia

For 1996, '97 and '98, more than $3 billion was pledged for the reconstruction of Bosnia, most of it from Europe.

Origin of funds Funds committed Funds paid

(in millions) (in millions)

Europe* $1,901 $1,125

U.S. 757 592

World Bank 613 455

Total $3.27 billion $2.17 billion

*Includes bilateral aid and aid from the European Union

SOURCE: World Bank