Казелли П. What remains of Soviet in Russia’s economy?


In 1925 John Maynard Keynes wrote: “The economic system of Russia has undergone and is undergoing such rapid changes that it is impossible to obtain a precise and accurate account of it… Almost everything one can say about the country is true and false at the same time.” Can this observation, made on the NEP Soviet economy after the period of War Communism, be extended to the contemporary Russian economy? And after a systemic transformation that was exactly the opposite to that witnessed by Keynes in 1925, what remains of Soviet in the new economic system? Can Russia’s economy be legitimately compared to Western capitalist economies? Has the Socialist economic system that turned Russia from a backward agrarian system into an industrial economy completely disappeared, so that only historians take it under consideration? Or has this system left a heritage that in different ways has affected and shaped the current functioning of Russian economy?

In order to find an answer to these questions, it is necessary to go back to the transition theory formulated by economists from the London Schools of Economics, MIT and Harvard, who inspired and in some cases personally ruled the transformation process. According to this economic theory, the transition from a planned into a capitalist economy will be successful and increase the efficiency of the economy, only if it is rapid and the number of measures reaches a critical threshold. Otherwise the transition will fail. The classic transition plan is composed of three parts:

1)                 Macroeconomic stabilization

2)                Price liberalization, removal of the bureaucratic control over the economic activity and liberalization of foreign trade.

3)                Fundamental reorganization of the institutions (company and land privatization, creation of the stock exchange, reorganization of the banking system and fiscal reform).

The last two measures represent an actual systemic transformation. In this process the government has two functions. Firstly, it has to abolish the previous economic apparatus, characterized by a set of institutions, consumer and business behaviors, which were reinforced by a completely different system over seventy years. Secondly, it has the task of creating a new market economy, including all institutions that allow its functioning, hoping that the economic agents follow the new rules scrupulously.

However, the consequences of Russia’s economic transition were different from those expected by the main economic theory. Andrey Schleifer, Professor of Economics at Harvard University, personally wrote the privatization decree, but a few years after his reformation experience, he wrote a book significantly entitled “Without a map” (2000). He claims that the transition took place in a complete state of uncertainty about the results of those measures, which actually descended from few unquestionable theorems of the neoclassical economy.

Schleifer writes: “Reforming an economy is like making one's way through a steep, uncharted mountain range. Whether or not a path exists is defined by historical conjuncture and political institutions, while the context of crisis influences how urgently the mountaineers look for it”. Traversing a mountain range without a map is very hard: there are gorges, there could be bad weather, one or more possible paths, in winter one might get caught in an avalanche, or not be able to achieve the goal and then obliged to go back. Otherwise one could be an expert, or simply luckier, mountaineer, the sun could shine, the nights be clear, and if one does not have a compass, it is possible to follow the stars. Evidently, the transition was not as quick and easy as promised to Russia’s citizens and East European peoples in general.

In the first chapters of his 2000 book “Understanding transition”, Roland, another economist specialized in post socialist transformations, lists post factum some events that economists had neither expected, nor imagined: the incredible decline of income and production, the unusual behavior of privatized companies, the appearance of barter, the impressive growth of organized crime and its importance in the economy, the political and geographical fragmentation, added to the decline of life expectancy, the spread of epidemic diseases and the increasing malnutrition among children.

In contrast to the certainties of the main economic theory, reformers actually acted in a state of ontological uncertainty, the time horizon was short, and the boundaries of the system were constantly changing.

The fundamental mistake that reformers and their Western counselors made was to think that the Soviet microeconomic way of acting would have immediately been abandoned as a result of impulses that came from measures implemented by the economic authority. In this way, Russia’s economic system would have quickly converged towards excellent - or at least satisfying - behaviors, which were typical of a market economy.

Some theorists have recognized that the path towards liberal reforms is not necessarily a bed of roses. They then introduced the concept of path dependency, which means that the path is obstructed by the past, because the past history is important and heavily influences the transformation process. This view can be certainly shared, although it suggests that what comes from the past should often be rejected: the past represents only a burden, something negative. It is no coincidence that in post-1991 Russia the word savok is now frequently used in an ironic and at worst derogatory way to refer to the Soviet period: what is savok is considered old, inefficient, not modern, outdated, ridiculous, out of place.

In fact, in present-day Russia the word savok must court a huge popularity, if the Economist has published a survey with the compelling title “It was better before” on how Russians judge their past.

Are you satisfied with how things are going in Russia?

Would you judge the current economic situation good?

Is it a pity that the Soviet Union does not exist anymore?

Have changes helped common people since 1991 until now?

Have they improved your standard of living?

Have they increased the pride in your own country?

Have they positively influenced public morality?

 

What can count to solve the problems in Russia?

A democratic government

A strong leader

 

The problem for an economist is to realize and eventually measure how much savok exists in Russia’s economy. It is basically a case of seeing how rich the Soviet heritage is in Russia’s current economy. This heritage shows its influence in many ways: on the behavioral routines of new economic agents, on the functioning of the institutions, on the structure of production and on the geographical disposition of infrastructures.

Faced with aspects of Russian reality that did not exactly conform to forecasts, some institutional economists tried to explain the persistence of a Soviet heritage with a conceptual grid that took Russian specificity into consideration. Douglas North (2010) analyzes the relationship between institutions and development: the key of his theory lies in the assumption that the high transaction costs in Russian economy result from the distance between the theoretical functions of the institutions, which have to foster economic growth, and their real functioning. It is evident that in this approach the material and institutional characteristics of the Soviet experience represent a hindrance to change a socialist planned economy into an efficient capitalist one.

In Russia one of the most important outcomes of a twenty-year transformation, which was determined by the initial conditions and the functioning of new institutions, was the establishment of a weak institutional apparatus, unable to enforce the new rules. This was mainly due to the clash with rooted informal behaviors from the previous system and created a material and institutional structure that was not suitable for a long term economic growth.

Russian citizens do not place great trust in the “civicness” of entrepreneurs and the private property does not certainly have the sacred nature that it has in Western countries. This is the result of the traditional Russia’s thought on property and in particular of the chaotic distribution of Soviet common property, which led many citizens to think that the great oligarchs amassed their fortunes through illicit activities during the transition. According to Ofer (2010) “Russia has been trapped in a bad ‘uncivic’ equilibrium in which the government has a predatory reputation, but at the same time the public demands its involvement in the economy as an insurance against untrustworthy business.”

The emphasis on the role of institutions in the success of the systemic transition has increased in Western economists’ analysis on Russia: at first they had put the stress on price liberalization, macroeconomic balance and privatization. Only later they realized that a capitalist economy lasts if there are institutions allowing self-adjustment mechanisms within the market. Institutions cannot act as “scaffolding institutions” if they lack what economists call capital stock, which can be defined as the faith that citizens have in formal institutions. If this capital stock is very low, new institutions are not able to carry out their functions and are employed in other purposes. The deviation from their original aims has been extremely marked in Russia and according to some experts (Polterovich 2007) it has now become chronic, due to the continuous weakening of capital stock, the lack of confidence, the automation of society and the mistrust towards new institutions, which would therefore boost opportunistic behaviors.

Some examples of Soviet heritage in Russian economy

The most part of manufacturing sector that Russia inherited from the Soviet Union was inefficient, considering the standards of a planned economy and it could not compete on global market. According to Soviet standards, more than one third of capital goods in the manufacturing sector was obsolete. Machines were kept working until they could be used and their replacement was slaw, as there were not any economic standards for assessing functional obsolescence. Hence Russian economy needed higher investment rates as never in his history in order to produce more efficiently in a global market.

Several economists (Gaddy 1996, Fiona Hill) drew the attention to the high costs of industrialization in bitterly cold areas. These areas were chosen according to geopolitical and military parameters, which did not took the real cost of the investments into account. Also for this reason, the economy inherited from Russian Federation is one of the most distorted economies born after the Soviet implosion, since 78% of the people employed in the Soviet defense sector were from Russia.

A recent article (Mickailova 2012) presented a pattern for settlement and manufacturing employment using data acquired in Canada, whose climate is similar to Russia’s. These data are compared to those from the Russian Empire in 1910, in order to estimate regional population and employment rates in the Soviet Union in 1990. This heroic counterfactual analysis shows the size of employment distortion caused by the planned economy, which Russia would have to dismiss in order to align itself with the settlement and employment patterns of countries with the same latitude and climate. The outcomes of this reproduction appear really interesting: Russian Far East and Siberia have a population in excess of 14.5 million people (about 42% of the population of the entire area), whereas the employment rate in 1990 should have been one third. Even though we consider the population and employment displacement to East during the Second World War, we can only partly explain such difference.

After the Soviet implosion, the country experienced a migratory flaw from East to West ( for example, nearly 30-40% of the population emigrated from Magadan Oblast and Chukotka), but with the current migration rate it would require approximately sixty years to reach simulation’s forecasts. Added to this, migration flaws from eastern to western Russia have decreased since the early 2000s.

The third distortion that we can provide as example of the Soviet heritage is the excessive energy consumption of Russian economy. In fact, Russia has not been able to reduce considerably its gas and oil consumption for private and industrial use. It is widely known that buildings in the Soviet Union absorbed 50% of energy consumption for heating. Heating energy consumption in the Soviet Union was on average two- or threefold higher than that of areas in the European Union at the same climate conditions. Moreover, the stock of buildings in present Russia has an average age between thirty and sixty years with inefficient heating systems, since maintenance work has been poor in the last few years.

In the last decade of growth in the housing market, Russia did not have an increase in the home energy savings, because the government neither issued new building regulations, nor try to reduce energy waste. This was due to a reluctant government that did not raised energy prices to avoid discontent among the people. According to recent estimates, if energy prices in Russia were the same as in Europe, there would be a decrease in consumption by 50%.

What is more, the energy costs in the industry show a negative trend compared to Soviet times, as a result of inefficient production processes and lower investments. The Soviet heritage also remains present in the road sector. In fact, it has remained the same and risks to collapse under the weight of the traffic, which has sharply increased since the beginning of the century. As statistics show, the paved road network covers about 780,000 kilometers, of which 50,000 are federal roads and 450,000 regional. In China the same type of road network covers 3.3 million kilometers, in the United States 4.4 million.

On the one hand roads need to be totally rebuild, but on the other hand investments are low, less than 2% of GNP, whereas in European countries the investment on new roads and on the maintenance of the existing ones is between 3% and 5%. The problems caused by scarce and inefficient infrastructures are various:

·        the speed of transport is twice lower than in other developed countries.

·        Fuel consumption is 1.5 times higher.

·        Maintenance costs of a vehicle are twice or three times higher.

·        The average life of a Russian road is one third shorter than that of roads in developed countries.

Considering Russian specificities, such as geographic position, corruption and the Soviet laws that are still regulating road tenders, the costs for building new roads in Russia are the highest in the world, as the chart below shows.

 

The rule of law in Russia.

The Soviet heritage exercises its influence not only physically but also on institutions.

With the 1991 implosion, the Soviet Union disappeared as sovereign subject of international law, but not its legal system and its institutions. The Soviet legal system had one distinctive characteristic: the supremacy of the state's interests as they were interpreted by the party, which created a highly politicized justice system. The fact that Soviet (and later Russian) citizens were conscious of that, made them deeply suspicious about the legal system. The appeal to the court was therefore minimized and people preferred other ways to solve economic and social disputes.

Since the Russian leadership wanted to jump to a market economy in the shortest time possible, it was necessary  to dismantle not only the previous economic system, but also its justice system. Many experts have called this frantic way of proceeding “ liberal Bolshevism”, in contrast with the slow and incremental Chinese reformism (grouping stones to touch the river). For this reason during  the Gaidar-Chubais government there was a period in which the Soviet laws were still in force as the economy was changing. Of course this created flagrant contradictions. For instance, the Soviet Criminal Code considered offence the private transactions in foreign currency, but foreign exchange offices appeared everywhere in the Russian cities. What is more, a lot of new laws passed by the Duma after 1993 were inspired by the Anglo-Saxon Common Law, whereas the Soviet law was based on the principles of the Continental Law. This created of course a rift among Russian jurists. The new Civil Code started to appear in chunks in 1995, and the new Penal Code in 1997.

In 1992 the independence of the executive power was proclaimed. But it is still unsure whether this independence was real or not during Eltsin's and later Putin's government. The expression “telephone justice” is often used to indicate that personal relationships were more important than the written law. At that time Russia's economy was on the point of collapse and citizens were coming to grips with a drastic reduction of their salary. These facts may explain why a set of rules from above could not be easily accepted and become a common heritage of the Russian society, bewildered by different layers of regulations that came from opposite justice systems.

Yeltsin's justice reformers thought that the new laws and legal institutions would have been anyway accepted by the citizens, even if they had been brought in very rapidly following the “top down” process and without involving the society. The new Russian citizens would have immediately given up the Soviet legal habits  and familiarized with the new laws and institutions. This was the typical reasoning of an economic theory emphasizing the role of supply: the supply of new laws would have immediately created the demand of the new medium class, which was born with the privatization and would have easily abandoned the previous rules of conduct.

This way of thinking simply did not consider the deep-seated distrust that Russian citizens had in the rule of law and that the rallying cry of the new law-based state (or provovoe gosudarstvo, as coined by Gorbachev) was skeptically accepted.

To give an idea of the mistrust that the citizens had in the judicial system, two of the many Russian sayings on courts and judges say: where there is a court, there is no truth; we do not fear trials, we fear judges.

All the research carried out on the rule of law in Russia shows that the results were not so positive: according to the World Bank from 1996 to 2009 the situation of justice in Russia remained steady and outdated, placing Russia to the bottom of the world rank, with only 30% of world countries experiencing a worse situation.

Many claim that things are getting better because the law is entering the folds of Russian society, although very slowly. Of course if we try to find in Putin's Russia the equivalent of an Anglo-Saxon justice system, which is the traditional yardstick of judgment, we would fail because the formal adjustment of the system does not correspond to reality.

The law and justice apparatus has completely changed. It is not just the civil and penal legislations that have changed, but also commercial and constitutional ones. The problem is that although both Yeltsin and Putin created the formal apparatus, these rule were only partly observed. A real adaptation to the new apparatus has not yet been completed and it might take generations and a continuous growth to be accomplished.

It must be underlined that the traditional Soviet view of society is that of a homogeneous whole that cannot be separated in smaller parts. This way of thinking is an obstacle to creating a market economy. Debating on the outcomes of the economic transition, many economists based their negative judgement about the transition on this principle. And the consequence was the appeal to an interventionist economic policy.

As alternatives to separated economy and politics, many economists suggest the return to an economic mobilization (Gubanov 2001, 2005a and 2005b; Zagladin 2005, p.31; Kutzetsov 2005, p.42), in order to rejoin the two spheres, separated by the transition.

This reaction led Russian academics to nationalist and interventionist positions, which cast doubt on the Western development model. The most striking example of this cultural change is the conversion of the economist Gregory Khanin, who had sharply criticized the Soviet Union in the 1980s and then became a radical liberal. Reversing completely his previous position, in many articles he praised Stalin's planification as example of efficient industrial policy. According to him, all the changes that have been introduced over the last twenty years did not take into account specific aspects of Russian culture, in particular its long-term apathy.  And so, the idea of a homogenous whole returns in the background of Khanin's analysis (Zveynert 2008).  

 

A different explanation

The contemporary literature on economics and politics in Russia uses a stereotyped language, characterized by expressions such as “ Duchy of Moskow”, eternal Russian authoritarianism, centuries-old passivity within Russia's population, inefficient economy, political use of economic resources, a state that smothers the spontaneous private activity etc. (Hedlund 1999, Rosefielde 2005). It is evident that in Russia we now find aspects of economic, institutional and political life that have characteristics and nuances derived from Russia's past history. This does not imply to embrace historical determinism or, on the contrary, to assert that the past history does not count.  Each historic situation opens up the possibility to choose among different routes to follow within more or less strict limits, which are the heritage of the past history. In this way, the ruling class is judged by the quality of their choices.

In order to understand Russia under Putin's and Medvedev's leadership, it might be easier - although culturally less refined – rather than turning to the history of the Duchy of Moskow, to take as the point of departure the failure of Gorbachevian reforms and the terrible economic, political and psychological shock that Russian citizens had during Yeltsin's government. What is more, we are now in an economically globalized world, where the international flaws of both energy and goods deprive the state of its power, restraining its decisions on domestic economy. In this bleak picture of change, the main cultural and political trends of Russian history have reappeared and had to come up against a  capitalist system that has expanded worldwide and for the first time in history has unified the world.

The events from the 1980s until now can be interpreted as the joint effect of forces acting on different time scales. In fact, the Russian transition was a triple transition: from a country to another (the Soviet Union – Russia), from a State to another (Soviet State – Russian State), from a economic system to another (Socialist planned economy – capitalist market economy).

The first force is represented on the one hand by the weakening of the storage capacity in the planned economy, which was born at the end of the 1920s, and on the other hand by the inability of the ruling class to implement reforms. The second is represented by globalization, which really started to manifest over the course of the 1980s, clearly showing the failure of the Soviet experience. The third is represented by the culture and the typical ideology of Russia’s history.

The current political and cultural structure is the result of the clash between these forces, which arose in different periods but express themselves simultaneously and originated a momentous event. In Nassin Nicholas Taleb's words, this could be considered as the arrival of the black swan, and using the language of politics, it represents a revolutionary transformation whose aftershocks extend over years and seem endless.

It would be too easy and less satisfactory to emphasize the fact that the authoritarian aspects we find in the current political and economic setting are simply the return of the Russian curse, with the spirit of Ivan The Terrible embodied in his modern counterpart Putin. It might be more useful to interpret the current economic and institutional system as the reaction of the ruling class – mainly communists with a Soviet education – to the deindustrialization and the decivilization of the 1980s and 90s in a increasingly interdependent and globalized world. This reaction produced a not so conscious strategic intervention of the government in the economy – a sort of development state in Russian style. The solution was imposed by external economic and political conditions, if Russia wanted to maintain an ounce of economic sovereignty. All this would have been lost if the energetic resources had for example become of foreign property or fallen into the ends of Western energy multinationals. Nowhere else in the world the major energy companies are state-owned and in a way the state protects them  in order to avoid losing the control. Since Russian economy is based on the energy sector, it was unlikely that the State would not intervene and exercise almost absolute control over those physical resources that guarantee country's development.

Of course, the description of Russia as a development state does not look like that of South-Eastern countries, for whom this expression was coined. It was used to describe their development in the 1960s and 70s, which differed from the development of Western countries both economically and politically. That model of development took place in a contest of control of capital flows, limited foreign direct investments and protection of domestic markets, which allowed these nations to develop their own manufacturing industry and become export-driven countries (Amdsen 1992, Chalmers Johnson 1982). The Russian development state must develop in the context of market liberalization, where stimulating the development is more difficult, the monetary and fiscal policy is subject to the judgement of international markets and both sovereignty and independence of the national economic policy are undermined.

In conclusion to this paper it is possible to give an answer to the questions raised at the beginning about the nature of the Russian economic system. The race between reforms and resistance to reforms in Russia led to the creation of an economic system that has the same traits of  a new type of development state, which is a complex and peculiar system compared to Western capitalism. This is the combination of different results produced by market reforms and the heritage of the previous system. Considering the complexity of this transformation and the risk of Armageddon, using Kotkin's words, in my opinion the result could considered satisfactory.

 

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