Signs of panic among Yeltsin's team

Issue 

By Renfrey Clarke

MOSCOW — In the last weeks of May, the nerve of Russia's chief economic strategists seemed to crack. Ending months of confident statements by government leaders, President Boris Yeltsin admitted to a meeting of industrial managers that the economy was close to collapse. On May 23 he signed six decrees reducing enterprise tax rates and ending export restrictions. Within a week, the cabinet had drafted a set of wage-cutting provisions that would impose a punitive tax on enterprises that raised wages by more than 70% of the monthly inflation rate.

Along with other measures, these were designed to increase profitability and force enterprises to begin paying off their debts. The foreshadowed cuts in profit tax and value added taxes would be partly offset by the cancelling of other concessions. Nevertheless, the days seemed to have passed when economic ministers suggested that the only really important tasks before them were to cut state spending and reduce inflation.

Assurances were given that the battle against inflation would continue. But Russian leaders seemed finally to be acknowledging that without factories operating and goods being produced, there would be few revenues with which to pursue the goal of a balanced budget.

The previous "hands off" approach, in which government ideologues had argued for leaving stabilisation to be carried out by the market, was now replaced by a posture of furious activism. Top presidential economic adviser Alexander Livshits stated that Yeltsin's decrees were only the beginning of as many as 100 new orders on the economy to be issued by the end of the year.

The new propaganda image is that of state leaders striding resolutely into battle to end the rout of industry. But a closer look at the measures proposed indicates a very different reality. As the collapse of production during 1994 has exceeded all the predictions of neo-liberal "experts", the once confidently doctrinaire Yeltsin administration has begun dissolving in panic.

Downward spiral

Even people who originally supported Yeltsin's "shock therapy" now admit that the effects have been very different from the brief, sharp jolt that was supposed to cleanse the country of inefficient production and enforce financial discipline. The abandonment of central controls, together with cutbacks in subsidies to industry and the opening of the country to imports, has set off a seemingly endless downward spiral of falling investment, plunging output, unsold produce and unpayable inter-enterprise debts.

According to a report in mid-May by the business paper Finansovye Izvestia, industrial output in March was 29.9% below the figure for March 1993. On a seasonally adjusted basis, industrial production in March was down by 52.9% on the level in January 1990.

This catastrophe is not, as is often argued, the result of a failure to introduce market mechanisms swiftly enough. This is shown by the situation in light manufacturing. In this area, which is oriented directly to the consumer market, privatisation began early and is now virtually complete. Nevertheless, production in this sector in March was down by 35% from a year earlier, and plants were typically working at less than 40% of capacity.

Russia's economy today suffers from a multiple crisis in which overproduction-underconsumption is combined with the deforming impact of the world market. As a result of cuts in subsidies and centralised investments, many factories can no longer afford the supplies and equipment they need. Producer goods have piled up unsold in factory yards.

The situation of consumer production has been more complex. Yeltsin's policies included allowing freed prices to slash the buying power of the population; during 1992, consumption crashed. Then during 1993 consumption by the population as a whole actually increased marginally, even though total industrial output was falling.

This rise was a paradoxical reflection of the continuing slump in investment. Funds which in other circumstances would have gone to maintain and develop production were being appropriated by enterprise managers as high salaries or, just as often, stolen by the same managers and a host of crooked hangers-on. Meanwhile, the buying power of the mass of the population continued to slide.

World market

Ordinarily, a rise in consumer demand would have stimulated production, at least in consumer manufacturing. But the international market, to which the "reformers" were devotedly opening up the Russian economy, left that economy crushed and warped. The newly wealthy were not interested in the products of Russian factories, instead demanding imported luxury goods. Even in the shrinking area of sales to the mass of consumers, Russian enterprises, starved of the investment funds to develop low-cost production, were often overwhelmed by foreign competitors.

Overseeing the process through which the Russian economy was deformed to suit the needs of international capital was carried out by the International Monetary Fund. The IMF offered emergency loans in return for further reductions in state funding of investment and for opening Russia still more completely to world capitalism. In mid-April, the government reached a new loan agreement with the IMF based on stringent spending limits.

Soon after this, desperate pressure from lobbyists seems to have begun to persuade Yeltsin's advisers that the course they were following was suicidal. At the end of April, a revised version of the 1994 budget included markedly higher funding for agriculture; the deficit was now well above the levels agreed with the IMF.

Early in May, there were signs that Yeltsin aides had begun to see the collapse of production, rather than inflation, as the central aspect of the country's economic problems. Alexander Livshits was quoted on May 4 as warning that excessively tight monetary policies could stifle the economy.

However, there has still been no sign that the IMF's basic perspectives have been rejected. If the government's plans for wage cuts are implemented, mass consumer demand will fall still further.

Taxation

As the government has now recognised, a new tax regime is an acute necessity. Producers are now subject to as many as 40 different taxes and duties at federal, provincial and local levels. Many enterprises are required to hand over more than 90% of their profits. In these circumstances, firms are compelled to cheat on their tax payments if they are to continue to produce and to pay their workers.

But while the proposed cuts of 10 to 20% in enterprise taxes will be easy to implement, improving tax collection to make up for the resulting fall in state revenues will be far more difficult. Especially in the last six months, the government's actions have created a sophisticated culture of tax evasion in Russia.

Yeltsin's efforts to reform the tax regime are therefore likely to be followed by a major increase in the state budget deficit. This in turn can be expected to cause the IMF to crack the whip — and in these circumstances, it will be remarkable if the tax cuts are not overwhelmed as the government scrambles for money.

Reforming the tax system while trying to maintain revenue levels would be a daunting task even if the state machine were a model of efficiency. But the government ministries are slow-moving beasts, notorious for refusing to consult with one another and for ignoring legislation that clashes with their prejudices.

Will these ministries over the next six months implement 100 new decrees on the economy — especially if, as seems certain, many of these decrees contradict one another? Few real changes can be expected. The major new developments are likely to be an increase in the general sense of helplessness, and heightened desperation among the policy-makers.

In one of its more insightful moments, Finansovye Izvestia observed that the government might eventually be faced with the need to declare a state of economic emergency, and to place a temporary freeze on prices and wages. But even if the government found the resolve to do this, the central problems of the economy would not have been addressed.

A critical dilemma is the lack of investment funds at affordable interest rates. The country's 2000 new commercial banks are more attuned to laundering mafia profits than to putting money into production. The only institution capable of meeting the need for investment funding is the state.

For the government simply to hand out investment credits, however, would be to guarantee that huge quantities of state funds were used for currency speculation or vanished into secret accounts in Western banks. State regulation of the enterprises concerned would be essential, to ensure that investment actually took place. Equally vital would be elements of central planning, to ensure rational decisions concerning the sectors of industry to be aided and the goals to be pursued.

Russian industry can be saved from total collapse only if the government consciously reverses its march to the "free market". But are Yeltsin and Chernomyrdin going to break with the IMF? No-one should hold their breath.