The Failure of Perestroika:
Alternative paths for Russia’s transition to a market economy
[The following post is a version of a paper I wrote for my class “Politics of Russia and the Former Soviet Union” at Kansas State University. I chose the topic of economic reform under Gorbachev and to a lesser extent Yeltsin because I was interested in the realities and causes of greater consumer shortages under Gorbachev and the hyperinflation and the economic social tragedy of Russia under Yeltsin. I learned a lot from the course and my research. I hope you learn something from my research as well.]
Gorbachev entered the Secretary-Generalship with grand promises to improve the Soviet economy through Perestroika. However, his economic policies caused more frequent shortages of consumer goods, inflation, and a continued decline in Soviet GNP. Gorbachev broke down the system of central planning before the conditions of a market were established. His failure to pursue genuine agricultural reform resulted in a missed opportunity to increase productivity and the food supply. The defeat of plans to gradually bring prices to market levels and reduce food subsidies lead to ballooning deficits and uncontrollable inflation. Russia’s transition to a market economy is a tale of missed opportunities and failed policies. The pain experienced by Russians at the end of the 1980s and throughout the 1990s was avoidable, and would not have occurred if policy makers pursued a different path to capitalism.
II Prior to Gorbachev
The totalitarian nature of the Soviet economy was established under Stalin. Peasants were forced to work on state-run collective farms (Dziewanowski 174). Those who refused were either killed or sent to Siberia to die of starvation and cold. Simultaneously, workers and some peasants were drafted to expand Soviet industry (Dziewanowski 178). The results of these policies included a dramatic drop in agricultural output and tens of millions of deaths.
These campaigns were coordinated in the first Five-year plan that laid out in great detail every aspect of the Soviet economy, including the precise quantity of each good that was to be produced (Dziewanowski 173). No private enterprise was permitted. Every economic interaction made between suppliers was determined by the state.
Despite the unparalleled human cost, Stalin’s forced industrialization of the Soviet Union significantly expanded the Soviet economy. Abram Bergson, a former dean of Soviet studies at Harvard University, estimated that Soviet Gross National Product (GNP) increased by 5.5 percent from 1928-1937 (Bleaney 22). The growth rate of Soviet GNP declined steadily after 1950. According to western estimates, there was no real growth in Soviet GNP from 1980-1985 (Hammer 287) (Bleaney 22). In addition, the Soviet economy lagged far behind the west in technological innovation (Hammer 278).
One of the major problems in the Soviet economic system was the regular shortages of consumer goods that resulted from price controls. The government sets the prices for all products. Often, the price of a product was set below the level of demand for the product. This meant that producers would not have enough money to produce the amount of goods desired at the set price. This resulted in consumer shortages where people could not obtain the products they desired (Lavigne 54). This was an inherent aspect of the Soviet economy throughout its existence.
Mikhail Gorbachev became the General-Secretary of the Communist Party of the Soviet Union in 1985 after the death of Konstantin Chernenko. Gorbachev never had a clear plan on how to achieve economic reform (Hammer 282). Gorbachev hoped to make the Soviet economy more productive, increase the rate of Soviet growth, and improve the quality of products produced (Hammer 283). However, these were goals, not specific policy proposals. Gorbachev enacted a policy of Glasnost, where citizens could freely discuss and publish articles addressing the problems facing the Soviet Union and possible solutions. He hoped that this would bring to light some of the solutions that would fix the Soviet economy (Hammer 287). When one set of economic reforms would not bring sufficient progress, Gorbachev would try others (Hammer 283).
Perestroika began in 1985 with minor reforms that had been used by other Soviet leaders; Gorbachev placed a heavy tax on alcohol, tightened discipline, and increased investment in heavy industry (Hough 107).
In 1986 and early 1987 Gorbachev enacted larger reforms that left the larger structure of the Soviet economy in place but also allowed for a level free enterprise that had not been seen since Lenin’s New Economic Policy. The formation of small cooperatives that were not dominated by the government was legalized (Hough 109). Part-time private economic activity by individuals, and in some cases full-time economic activity, was allowed (Hough 109). Agroindustrial enterprises were given the option of selling output that was greater than planned levels (Hough 109). In regards to foreign economic interaction, many industries and large enterprises were given the ability to engage in foreign trade outside the monopoly of the Ministry of Foreign Trade and foreigners were allowed to invest in the Soviet Union and own property in the form of joint ventures (Hough 109).
In 1986, Gorbachev enacted The Decree on Agricultural Management which encouraged the adoption of the “contract system” for agriculture (Bleaney 26). Under the contract system, collective farms would sub-contract to a family or small group that would pay for inputs and sell their output back to the collective farm at a specified price (Bleaney 26). This was meant to increase competition and agricultural productivity. The degree did not require collective farms to implement such a policy, it merely encouraged them to do so, and as a result few did (Bleaney 26).
Market reforms in a command economy are much easier to implement and more likely to succeed in the agricultural sector than in the industrial sector. Industry relies upon a complex set of supplier-producer relationships where in agriculture workers are at the beginning and end of their supply chain. Traditional agriculture is preformed in small groups as opposed to factories which rely on large numbers of workers. The success or failure of the work of a small group more closely depends upon and is better understood by individuals working in that group. Thus these agricultural groups thrive under competition easier than larger operations. Command economies that take the route show that it is effective. China’s transition to a market economy was comparatively smooth; they began their reforms by dismantling collective farms and returning agriculture to private enterprise (Bleaney 27). Hungary effectively encouraged extensive sub-contracting in agriculture and its farms fared well (Bleaney 27). Gorbachev did not take this path. He focused his attention on industry and only enacted minor changes in agriculture. As a result the Soviet transition was more difficult than in places that began with agricultural reform.
The Law on State Enterprise, passed in 1987, laid out the principal of “self-financing.” Under this policy enterprises and industrial associations were given increased autonomy to make business decisions (Bleaney 27). Enterprises were expected to self-finance and become profitable (Keller). The government still determined a limited proportion of output based on state orders, the tax rate on the association’s profits, and how employee’s pay would be influenced by profitability (Bleaney 27). The government was also still responsible for the pricing and allocating raw materials (Keller).
This system lead to the breakdown in traditional supplier-producer relationships. In the past, when a factory did not have enough supplies it would contact the central planners (Burawoy 377). Under the system of “self-financing,” enterprises were largely expected to sort those problems out among themselves (Burawoy 377). The prices of many goods remained set by the government (Burawoy 378). Thus the traditional problem of price-control induced shortages remained while the lack of supplier-producer coordination only increased the frequency of consumer shortages. The government even had to reintroduce the wartime policy of rationing to cope with the shortages (Russian History: Glasnost and Perestroika Times). Prime Minister Ryzhkov explained the problem facing producers and consumers under self-financing quite well. “Perestroika has wrecked established structures, both state and party ones, but nothing effective has so far been created in exchange. This has directly affected the economy where there is neither a plan nor a market” (Bleaney 35). If prices had been gradually raised to close to market values before the system of central planning was destroyed these shortages could have been greatly reduced.
Another difficult problem in the Soviet economy was the issue of food subsidies. The government spent money in order to increase the availability of food at a price below market value. This could be seen quite clearly with respect to bread prices. Over the years, the government increased the price it paid farmers for grain while it kept bread prices as they were. The situation became so irrational that it was cheaper for peasants to feed their pigs with the bread they brought from the store than the grain they grew themselves (Hough 113).
Throughout Gorbachev’s rule food subsidies placed an increasing burden on the deficit and thus lead to inflationary pressures (Hough 114). When governments spend more money than they take in from taxes they have to borrow money to make up the difference. This added money enters the economy and often causes the value of the currency to drop in a process known as inflation. In 1989 Prime Minister Ryzhkov admitted that the deficit was as great as 10 percent of gross national product (Bleaney 29). This lead lenders to question whether the Soviet Union would be able to pay its debts in the future (Hough 114). The decline of the growth rate continued under Gorbachev to the point that it became negative. In December 1990 Ryzhkov admitted that Soviet GNP had declined by 3 percent during the year (Bleaney 21).
Another problem facing economic reform was the issue of price controls. Because prices were set below market value, producers did not have enough money to make the amount of goods demanded at the set price. The result was price-induced shortages that have always been a part of the Soviet economy. Because Soviet consumers could not find the products they wished to buy, they were forced to put the money into savings (Bleaney 29). This meant that if prices were allowed to immedietly transition to their market values, the shortages would cease and all of those involuntary savings would rush into the economy (Bleaney 29). That would result in uncontrollable hyperinflation (Bleaney 29). That is why it was necessary to raise prices gradually to their market levels. This would prevent the inflation from occurring at such a high level.
When the issue of price increases came up for discussion in 1987 and 1988 those who would become known as the “radical economists” opposed any incremental increase in prices (Hough 116). They wanted prices to be immediately allowed to go to their market level. As the political climate would not allow this to happen in 1987 or 1988 they were, in effect, opposing any increase in prices at all (Hough 117). Other Soviet economists at the time advocated for gradual price increases (Hough 117).
In 1990 Ryzhkov presented a plan to the Supreme Soviet that included price increases and a reduction in food subsidies (Bleaney 29). Such policies, while necessary, were unpopular among the masses (Hough 112-113). The Supreme Soviet rejected the plan and told Ryzhkov to come back with another plan in September (Hough 359). Gorbachev responded to the proposal by saying that, “it was absurd to begin economic reform with price increases.” He said this even though he chaired both the presidential council and the federation council, both of which had approved that Ryzhkov present his plan, the increases in food prices included, before the Supreme Soviet (Hough 358). Yeltsin criticized the plan as an, “antipeople’s policy Russia should not adopt” (Hough 359). No price increases were to be adopted before the collapse of the Soviet Union.
After the collapse of the Soviet Union, Yeltsin adopted a policy of “shock therapy” and chose many of the “radical economists” as his advisors. In January 1992 Yeltsin lifted all price controls and allowed prices to immediately rise to their market values (Satter 46). The result was predictable. People took the money they had in savings as a result of decades of shortages and the value of the ruble plummeted dramatically. The hyperinflation was uncontrollable. Prices rose by 245 percent in that month alone (Curtis). In 1992 retail prices rose by 2,520 percent; In 1993 prices rose by 840 percent; In 1994 prices rose by 224 percent (Curtis). After only three months of shock therapy 99 percent of the money held by Russian citizens in bank accounts had disappeared (Satter 47). All of this was approved by the same Yeltsin who had derided Ryzhkov’s proposal of gradual price increases as an “anti-people’s policy.”
During shock therapy Yeltsin’s government also liberalized foreign trade and removed import barriers (Satter 38). They also compressed the money supply in a hopeless attempt at combating the hyperinflation created by their irresponsible immediate freeing of prices (Satter 38).
Gorbachev promised to improve the functioning of the Soviet economy through Perestroika. Specifically he promised that he would increase the rate of growth of the Soviet economy. During his tenure the rate continued to decline and even became negative. Gorbachev was willing to make promises that he could not keep and had no clear plan on how to attain at the time me made them.
The radical economists opposed incremental price increases in an attempt to achieve an immediate transfer to market determined prices. They did this even though such a policy was politically impossible when the discussion of price increases first came up. They sacrificed pragmatism for idealism, an idealism that would result in catastrophic failure.
Both Yeltsin and Gorbachev opposed Ryzhov’s 1990 policy that would have gradually raise prices and decreased food subsidies. Gorbachev did this even though he had approved that Ryzhov present his policy to the Supreme Soviet in the first place. Yeltsin opposed Ryzhov’s plan for the pain it would cause the people even though the plan he would later implement was much more radical and more painful for the people. Both were willing to modify their positions for political gain. This also meant that even though the Soviet Union was not a democracy in 1990, public opinion still had an effect on public policy.
The failure of the Soviet political elite to first focus on the reform of agriculture shows that the Soviet political class fails to consider the examples of other countries in their creation of policy.
The public’s response to these problems was not uniquely Russian. People everywhere disapprove of the increases of prices, whether they are as a result of markets or central planning. The frustration that results from the inability to obtain consumer products and the loss of one’s life savings as a result of hyperinflation are also universal.
Gorbachev’s policies of Perestroika lead to increased consumer shortages, inflationary pressures, increasing deficits, and a continued decrease in Soviet GNP. These were not the inevitable result of the breakdown of the command economy and the transition to capitalism; they were the result of the manner which Soviet and Russian leaders chose to do so.
Bleaney, Michael. "Economy: Economic Reform." The Impact of Gorbachev. Ed. D. W. Spring. New York: Pinter Publisher, 1991. 21-36. Print.
Curtis, Glenn. Russia: A Country Study. Washington: GPO for the Library of Congress, 1996. Web. <http://countrystudies.us/russia/57.htm>.
Dziewanowski, M. K. Russia in the Twentieth Century. Upper Saddle River: PrenticeHall, 2003. Print.
Hammer, Darrell P. The USSR: The Politics of Oligarchy. Bolder: Westview Press, 1990.Print.
Hough, Jerry. Democratization and Revolution in the USSR, 1985-1991. Washington D.C.: Brookings Institution Press, 1997. Print.
Keller, Bill. "For Grim Soviet Consumers, The New Year of Discontent." New York Times. 1 January 1989. Web. 3 May 2012. <http://www.nytimes.com/1989/01/01/world/for-grim-soviet-consumers-the-new-year-of-discontent.html>.
Lavigne, Marie. "Problems facing the Soviet Economy." The Gorbachv Era. Ed. Alexander Dallin and Ed. Condoleezza Rice. Stanford: Stanford Alumni Association, 1986. 42-59. Print.
"Russian History: Glasnost and Perestroika Times." Russiapedia. 2011. Web. 3 May 2012. <http://russiapedia.rt.com/russian-history/perestroika/>.
Satter, David. Darkness at Dawn: The Rise of the Russian Criminal State. New Haven: Yale University Press, 2003. Print.