Kremlin Capitalism: The Privatization of the Russian Economy
The task of inventing a market economy for Russia would have daunted more experienced minds. But the economists to whom President Boris Yeltsin turned in 1991 were sure of themselves, and impatient. They believed they must destroy the principles on which the old Soviet economy had rested, so that a new, Russian one might rise in its place. They thought speed essential, lest chaos or reaction overtake them.
Chaos was not far away, the product both of inefficiencies that had been accumulating in the Soviet economy for decades and of spasmodic attempts at partial liberalization under Mikhail Gorbachev. The price system was a particularly appalling mess. Industries could no longer afford, or could no longer be compelled, to provide goods to the market at the arbitrarily low prices which the government had tried to impose, as it had in the past. But the government feared to free retail prices lest that make consumers even angrier than they were already.
Yegor Gaidar, a former economics editor of Pravda who at thirty-five was given charge of Russia’s economic policy, persuaded Mr. Yeltsin to let prices find their own level and to brave the consequences. A decree freeing prices was published on December 3, 1991, and took effect a month later, on January 2. It worked very much as predicted. Prices doubled or trebled. Producers, importers, distributors, and retailers found it worth their while to offer goods for sale again. There was no popular insurrection. Large quantities of previously scarce items went on sale in the shops and street markets. From this point on Russian retail prices were determined mainly by market mechanisms. One foundation of state control over the economy had been destroyed, almost literally overnight.
The state also controlled economic activity through its near-monopoly ownership of industry. Attacking this form of control was a longer, harder, and generally more contentious process. It was all very well deciding that state assets were to be sold off; but a buyer had also to be found, preferably one capable of making use of them. Yet the buyer of privatized assets was, by definition, the private sector; and one legacy of communism was that Russia scarcely had a private sector. Legerdemain was required. Mikhail Gorbachev’s remark, “When owners have appeared, private property will emerge,” turned out to be less fatuous than it had seemed at first hearing.
The formula eventually chosen by Gaidar and his associates for privatizing most of Russia’s larger state-owned firms and factories was roughly this: workers and managers would decide how much their firms were worth, and would be given the first chance to acquire a controlling interest when the shares were offered. So that the rest of the population had a stake in the process, any Russian citizen could claim, for next to nothing, a voucher that could be tendered for shares in any firm being privatized.
Privatization of industry began in earnest at the end of 1992, continued in 1993 and 1994, and declined at the start of 1995. It affected roughly 18,000 of Russia’s larger firms-leaving out of the count the many more small businesses, mostly retail shops, that were also privatized. Very large firms, particularly in the energy industries, the largest and most powerful in Russia, were excluded from this first phase of privatization on the grounds that including them would have caused too many practical difficulties and too many political and bureaucratic arguments. Agriculture was little affected by privatization. State-owned farms were transferred, technically, to private ownership in 1992, but there was rarely any practical way for individual members of a collective to exercise the property rights they had notionally gained.
The main wave of privatization was a huge achievement for a young and shaky government. The firms privatized between 1992 and 1995 accounted for roughly four fifths of employment and output in the manufacturing industry as of 1991. The change was big enough to rearrange social and political relations within Russia, as well as economic ones. Privatization helped to change the vocation of the state from one of controlling the economy to one of simply interfering with it.
The 1992-1995 privatizations, and their perceived results, are the main subject of Kremlin Capitalism. Andrei Shleifer, a professor of economics at Harvard University, and Joseph Blasi, a professor at Rutgers University’s School of Management and Labor Relations, both advisers to the Russian government, directed a project, the “Russian National Survey,” to track the fortunes of the newly privatized firms. They hired a staff of young economists and researchers who criss-crossed the country to ask managers what they were doing and why they were doing it. The firms in the sample employed an average of about two thousand people. The first round of interviews covered twenty-three firms in 1992, as privatization was being launched; the last one covered 357 firms in 1995 and 1996.
Professor Blasi and his colleagues do not claim to have produced a general account of Russian reform. They offer statistical data covering a large sample of privatized firms, and supply only a modest amount of economic, social, and political background. For their economic overviews they have “reliedâ€Śrepeatedly,” they say, on another recent work, How Russia Became a Market Economy, by another foreign adviser to the Russian government, the Swedish economist Anders Aslund.* They plan, they say, to write “a series of articles in academic journals” to present “an in-depth review of the statistical evidence, and a discussion of other scholarly research.”
They warn that they were not able to obtain much in the way of reliable financial data about the companies with which they dealt: accordingly, company finances are scarcely discussed. The privatization of residential property and of small commerce, and the government’s sale of shareholdings in huge oil and minerals firms to a handful of banks in 1995-1996, are touched upon; but they fall outside the main scope of the story. Finally, though the central inquiry of the book concerns ownership, the authors note that it is often impossible to establish as a matter of fact who does own any given firm in Russia, since rules to compel disclosure of corporate ownership either do not exist or are not followed.
Clearly, these are limitations. The result, nonetheless, is not only a useful sketch of what Russian reformers thought they were doing when they sold off their country’s industry, but also a comprehensive account of what Russian managers thought they were doing when they and their workers bought it. The authors identify the managers’ chief aim as preserving the control of the factories they had enjoyed under communism. In this aim the managers succeeded, largely by abusing their administrative powers-a fact that may help to explain why so much of Russian industry performed not much or no better after privatization than it had beforehand.
Between January 1993 and January 1996 Russia’s industrial output fell by roughly a third-even though the country’s total consumption of goods and services rose slightly over the same period. The privatized firms tracked by the Russian National Survey got rid of 23 percent of their employees between 1993 and 1996, but the slump in output left them operating at barely half capacity. In the course of shrinking, therefore, they tended to grow still less efficient. As for labor relations under the new dispensation, millions of workers found that any changes were for the worse. It became commonplace for managers to pay wages late, or not at all, knowing that employees had nowhere else to turn. An anecdote lurking among the statistics speaks volumes:
One of our research visits to a factory manager was interrupted by an elderly woman who was distraught because she needed 5,000 rubles (about $1) for medicine for her son. She had not been paid in months. The manager told her there was no money, and sent her away.
Money or no money, the managers were not going to give in easily. The final round of interviews in 1995-1996, when much of the Russian manufacturing industry was manifestly in a state of collapse, produced the finding that:
More than two-thirds [of general managers] said that they and their employees would oppose selling a majority of shares in the enterprise to an investor who would bring the entire amount of capital necessary to modernize and restructure the firm.
Even the usually self-effacing authors could not stifle a comment here, observing: “This mentality is suicidal. It makes no business sense.”
So what went wrong? Specifically, many firms were part of a defense industry that lost its purpose in life with the end of the cold war. Many relied on sales and supply networks that were shattered by the breakup of the Soviet Union. Most lacked elementary skills in marketing and financial management that had been unnecessary in the planned economy.
More generally, however, Russia had privatized much of its property without having created conditions in which the new private owners would feel secure, or even understand fully their role. The government, it might be argued, had little choice, given its intention to turn Russia into a market economy in which industry was under private ownership. It could have begun either by theorizing about private ownership or by practicing it, and it chose to practice it. That said, however, the Russian government and state proved to be afflicted by an unforeseen ineptitude in doing the things that governments and states in market economies are supposed to do-collect taxes, enforce contracts, maintain the value of the currency, and protect the weak, for whom social services have grown ever more threadbare. At the end of 1996, for example, state pensions, offering a bare subsistence even when paid, were at least three months overdue across a third of Russia.
Lack of efficiency and discipline in the government and civil service, exacerbated at all levels by venality, incompetence, and inexperience, contributed to an economic slump that was longer and deeper than any adjustment to a change in the structure of ownership should have required. The resolve and the ability of any firm that wanted to do business honestly were undermined. The easiest way to survive in the “new Russia” was to lie to the tax man, pay off the protection racketeers, bribe the local bureaucrats, barter for supplies, and pay workers months late, if at all. The system did not merely allow all of these things: in effect, it demanded them if companies were to survive.
Perhaps a second problem among managers was a failure, common in Russian economic and political debate, to grasp the notion of creating wealth-that transactions are possible that will make everybody better off. They had been brought up in a society whose obsession was with the distribution of a “wealth” that was assumed to pre-exist. Soviet-era debate tended to proceed on the basis that everything was a zero-sum game: that there was a fixed quantity of wealth in the country, or power in the world. For A to be rich, B must be poor; for A to be strong, B must be weak. Trade and investment were essentially methods countries used to exploit one another.
Brookings Institution, 1995.↩
Brookings Institution, 1995.↩