The Troubled Economy

The record collapse of the ruble (about 50 percent since July 1994), even after a partial recovery, has set off shockwaves that go beyond temporary discomfort for bankers and speculators. It has called into question the political leadership of President Boris Yeltsin and his prime minister, Viktor Chernomyrdin. The fiasco has also called into question recent assertions that Russia's economic reforms have been successful or, as Anders Aslund put it, that "Russia has at last become a relatively predictable country."


If the Russian economy was doing as well as some insist it was, the ruble should have been rising in value rather than falling. After all, inflation appeared to be subsiding and new wealth was being created. Most important, dollars and other hard currencies were being pumped into the economy which meant that there should have been an increase in demand for rubles and more dollars for the Central Bank to use to prop up the ruble. The hard currency funds included over $1 billion provided by the International Monetary Fund this summer as well as the recent outpouring of western investment dollars from funds such as Templeton, CS First Boston and Firebird. Investing an estimated $500-600 million a month and ignoring the absence of regulatory agencies as well as the MMM scam, these Western investors were determined to benefit from rising securities prices in what they assumed would be the latest and most promising "emerging market" (an "emerging market" is one from which it is impossible to emerge in an emergency).


But these surface manifestations of economic improvement hid some serious problems that sooner or later would take their toll. For example, the drop in the rate of inflation is due in considerable part to the fact that Russian factory managers have stopped paying their bills. They owe each other an estimated 120 trillion rubles. That includes at least 4 trillion rubles in overdue wages that sometimes have left workers without their salaries for three to four months. Admittedly a trillion rubles isn't what it used to be but the wage arrears has helped to hold down the rate of inflation. According to one Russian economist, if all wages had been paid on time, the inflation rate would have been 20 percent a month higher. In the words of one of Yeltsin's advisors, "If we wanted to, we could have brought an end to inflation: All we had to do was stop paying wages."


Also, tax collections were only about 50 percent of what had been anticipated. At the same time, farms, industries and even the military began to pressure for more state subsidies. This was not always merely a question of giving in to new political pressures. In many cases it was a belated fulfillment of commitments made earlier. For example, it was not only that the military budget had been cut by about half but that the government had also held back about half of the eventual payment that it had promised to make. The electricity department even cut off power to the country's Strategic Nuclear Missile Command Center when it failed to pay its bills.


At the same time some of the wrong enterprises were not having trouble. Mafia groups were collecting their payments on time and expanding their domination over the country's businesses and banks. While this benefited some segments of the economy, it was terrible for others. More and more of the country's few private farmers were forced to close down, in part because when they did mange to produce a crop, the mafia would refuse to allow them to sell it at city markets.


The firing of Central Bank Chairperson Viktor Gerashchenko -- if it actually happens -- will do little to correct inflation or resolve these other structural flaws. Admittedly Gerashchenko has hurt economic reform in the past. But recently even some of his critics have credited him with the drop in inflation and some other apparent successes of the economy. Now, however, as the scapegoat, he is blamed for keeping interest rates too high and not providing more support for the ruble.


If anything, Gerashchenko should be criticized for providing too much support. The Central Bank spent over $2 billion to keep the ruble from falling sooner and farther than it ultimately did. Given that the currency exchange market in Russia often involves dollar volumes as little as $50 to $100 million a day, that suggests that the reported ruble/dollar exchange rate is quite arbitrary and does not reflect underlying market trends. In retrospect it would have been better to have let the ruble rate drop sooner and more gradually. That in turn would have forced a more realistic look at just how serious Russia's economic problems are.


The search for conspirators goes beyond Gerashchenko. Some blame international bankers and some the Russian and foreign oil companies. Others insist that the IMF is at fault for not setting up a ruble stabilization fund. What those attacking the IMF miss, however, is that Russia still lacks the institutional base needed to generate not only more exports, but the return of the earnings from those exports to Russian -- rather than Swiss -- banks. Only then will the pressure to support the ruble be self- sustaining. If we had listened to such critics in 1991 when they first began to argue for a ruble stabilization fund, think how much more money would have poured out of the country into Western banks.


What is needed is long-term institutional change. Given that so many mistakes have been made and that as a consequence reform-thwarting groups like the mafia have become better situated, these changes will not come easily or quickly. It is too easy to forget that ill-considered quick fixes like shock therapy may end up complicating rather than facilitating reforms, especially in a country like Russia.





Marshall I. Goldman is professor of economics at Wellesley College, associate director of Harvard University's Russian Research Center and author of "Lost Opportunity: Why Economic Reforms in Russia Have Not Worked." He contributed this comment to The Moscow Times.