The inflationary option benefits the banks,above all. Russia’sbanking sector owes its affluence to the 1992-1994 inflation, and now that manybanks are floundering they can be thrown the life belt by the Central Bank inthe form of cheap loans, “cheap money.” It would knock down enterprises thathave jumped on the market bandwagon, whether exporters or producers ofmanufactures competitive on the domestic market. The lack of monetary stabilityis eroding their operating base and holds back their investment plans andgrowth prospects.
Inflation is at its worst in large citiesand industrial centers, because, first, it hurts the local enterprises, whichhave adapted to the market environment. Second, the urban population(particularly, the residents of Russia’s capital city) depend moreheavily on stable commodity flows than the country dwellers or inhabitants ofsmall towns. As money depreciates provisions cease flowing from farming regionswhich tend to impose restrictions on supplies going out, while foreign importsthin out to a trickle. By contrast, people in the hinterlands, in some waysmaintaining their links to farming, can adapt to food ups and downs moreeasily. The aftermath of August 17th is a vivid demonstration of the highvulnerability of large cities (primarily Moscow) to prices running amok andcommodity flows thrown into disarray.
The situation is different under a rigidmonetary policy scenario. It closely integrates efforts to speed along thestructural reorganization of Russia’s economy and allow inefficientbusinesses – bothmanufacturers and bankers – to go bankrupt or change hands. This policy endeavors to retainthe country’s vibrantties with world goods and capital markets, encourage competition, and restrictgovernment intervention in economics.
Understandably, this policy benefitsefficient businesses and large cities. With exchange rates holding steady,businesses are afforded favorable opportunities to implement investmentprograms. City dwellers, in their turn, are offered a wider choice of jobs orenterprise. The numerous labor market options ease the pain of unemployment,the inevitable companion of economy restructuring, for urban agglomerations.The banks and inefficient businesses, however, are confronted by the starkchoice of reorganization, not infrequently a very painful surgery. Unemploymentis poised to deliver its blow, which would fall more heavily on thehinterlands, where job opportunities are much fewer than in largecities.
The two options dealt with above share somecommon and politically unpleasant, yet practically inescapable, upshots. Inboth options, the government’s commitments, including social covenants, are lowered. Under atight financial policy this occurs directly, with budget expenditures cut tothe size of budget revenues. Inflation produces the same result, causing adevaluation of budget expenditures. Both options are painful, the second onebeing unjust to boot, with rising prices hitting the poorest segments of thepopulation first.
1.3.2. Development of an EconomicProgram
Certainly, the Primakov government was notpolitically neutral from the outset, nor did it make a “clean choice” betweenthe two economic policy alternatives. As it was hammered together, thegovernment was expected to opt for inflationism and populism, the likelihood ofwhich was suggested by the dominating presence of proxies of the agrarian andcommunist forces in the cabinet and the countless statements from politiciansand economists supporting the government. The premier promised to pay offarrears to public sector employees and pensioners within months, if not weeks,cut the knot of interenterprise arrears, stabilize the ruble, and clean up thenational house in general. Utterances about the need to begin a measured andcontrolled money issue, nationalize selected sectors of the economy, andintroduce a mandatory exchange rate, if not ban foreign exchange possession,and much in the same vein could be heard almost daily from, among other bigguns, top-caliber politicians.
The inflation option certainly had firmroots which could not easily be explained by the leftist (communist) visage ofthe new cabinet. The vast fiscal deficit and the conspicuous absence ofexternal sources to close it nudged the government forcefully toward theprinting press. Of course, another alternative was sharply reducing governmentspending, but it was unacceptable to the government, however, for politicalreasons, at least in the short term.
The printing press overtures were bolsteredby ungainly institutionalist ideas which, too, raised serious apprehensionsabout the authenticity of the interpretation which the emerging cabinet wasputting on the situation in the country and the possible moves by theauthorities.9
Had the new government acted exactly likeit was expected to, it would not be difficult to guess what came next.Actually, the model peddled to the government by advisors from the Duma and theAcademy of Sciences was nothing new, having been tested over the post-World WarII decades in dozens of countries, with the most spectacular results registeredin Latin America. The model is called the “economics of populism” in specialistliterature, and is well familiar to every economist.10
Sometime later, Primakov himself toldforeign business people meeting for a Davos Forum session in Moscow about thekind of expectations that were encouraged in this country and overseas by thebirth of the new government in Russia: “Not very long ago, we were hearingwarnings that nationalization was the trunk road for the government– thishasn’t happened; thatwe were to go back on privatization..., that we would fix the ruble exchangerate – wehaven’t, we are notgoing to fix it, let the ruble float. We were also warned of an uncontrolledmoney issue – thishasn’t happened; wewere feared to ban dollar circulation in the country – we haven’t; to plug up imports – the imports are flowing in;...were we feared to support domestic producers to the disadvantage of foreigninvestors – no goagain; we were rumored to stop paying off debts – we haven’t.” This is not an exaggeration,for such apprehensions really existed, fed by the mentality of the traditionalSoviet establishment that was coming to power together with Primakov, rhetoric,and the communist tradition in post-communist Russia.
Faced with the stark reality, the Primakovgovernment stepped more cautiously than it was expected. The fact that suchexpectations had been associated with it at all could hardly go unnoticed orput the cabinet in a more difficult position, awkward as it already was.Indeed, the inflation apprehensions could prove a “self-fulfilling prognosis,”infecting the moods and behavior of the business community. Moreover, theseexpectations (apprehensions) stood on firm ground, being an integral part ofthe draft schemes pondered by the government as it sat down to draw up itseconomic program.
The Primakov cabinet’s program-making efforts and thepremier’s own economicideas have undergone significant modification in the time the cabinet has beenin office. Initially, its policy documents were shot with undisguisedinflationist and dirigiste ideas, extremely to the point, as long you couldcall a spade a spade and talking about money printing did not make you blush.Later on, the documents were swamped with technicalities and fine specifics,with no room left deliberately for money issue or fiscal deficit.
The government started out on the ideassupplied by the RAS Economics Division. The no-nonsense approach to the programis evidenced by the fact that its authors, of all people, were lined up in thegovernment’s firstgroup set up to develop its economic program, and that Yury Maslyukov soughtregular counsel from the titled academics as group members for about a monthafter the birth of the new cabinet.
The program inspired by the “academics” wasa document espousing the imaginably most consistent and rigid (if notextremist) breed of the ideas of populism, inflationism, and dirigisme. Inform, it was a fairly integral and harmonious system of measures that couldeasily be formalized in legislation. According to the program fathers, thecrisis was wholly rooted in the economic policy pursued since late 1991, firstand foremost, in the liberalism of the economic policy, failure to make thebest use of the government establishment’s broad administrative powers, andexaggeration of the role of macroeconomic regulation in comparison withinstitutional reforms. Two closely affiliated ideas – jacking up consumer demand andgetting the idling industries to work again – form the mainstay of theconstructive planks of the program.
The program aimed at considerable cashinjections to resolve social problems, stimulate demand as a way to end theslump, expand the payment system, and put the banking crisis under control. Iteven suggested to “automatically” activate the printing press to avoid arrears(any kind, not just the shortchange in the budget revenues) in the future. Itviewed the printing press, therefore, as a cure-all to deal with thecountry’s myriadeconomic problems, no less. It also called for rigid monetary controls,including suppression of the population’s yen for foreignexchange.
Immediately as it was out, the program wasflogged heartily in the public, not so much for its theoretical opportunism(manifest inflationism), as for its glaring detachment from the real economicprocesses of the day. Many of the measures it marshaled opened up a hithertounprecedented scope for abuse on the part of both the government agencies(allocation of easy loans) and businesses. The idea of feeding loans tobusinesses developing arrears implied that virtually any entrepreneur couldglut himself on “easy money.” The blanket guarantee for thepopulation’s depositscould lead the banker to lure funds at fantastic interest rates – and file for bankruptcy. Examplesof this kind abound.
By early October, the government hadspawned its own economic program. Deprived of official endorsement, thedocument was produced at the Economics Ministry and circulated to the peopleconcerned in the cabinet in early September. The public, including the massmedia, were outraged, compelling Primakov to disown it. The program meritsclose scrutiny, though, for – unlike its later modifications – it is streamlined andspecific.
In form and substance, it is a sibling ofthe “academic” program. It, too, relies heavily on the printing press to healeconomic and social problems in record time, more obtrusive governmentintervention in the economy, including proscription of the dollar for hoardingand saving purposes. It also projects sweeping government regulation of pricesand tariffs (“on the output of core manufacturing industries, food and non-foodnecessities”, etc.), protectionism, and government tutelage forimport-substituting industries.
All is not old wine in new bottles, though.As a very practical document, the program names agencies responsible forcarrying the plans into effect. Unlike the “academic” version, it nearly missesthe Central Bank among the “responsible agents,” loading the full burden ofresponsibility for jacking up demand on the Finance Ministry. The documentloses the virgin innocence of the “academic” program.
The cabinet bosses were clearly frightenedby their own inflationist moods and the general anticipations of inflation. TheCentral Bank, too, was dragging its feet over the money issue. It had learnedits lessons well, and its realization of a direct link between money issue andinflation was vivid enough to translate talk about the bracing effect of moremoney sloshing around immediately into printing press activation. Central Bankchief Gerashchenko himself was evidently loath to assume responsibility forfueling a wild inflation and was pressuring the Duma into legislative action onthe monetary policy.
By downsizing its profile on the moneyissue, the government was plainly trying to exploit its administrative powers.The ideas of tough exchange controls are set in bold type here. As the programappeared unofficially in the press, Eduard Rossel came out for banning the useof the dollar in Russia, a proposal that, he claimed, had the backing of thePresident. Much is to be read into this coincidence, although it was hardlydeliberate. The simple reason is that these moods were at the time pervasiveamong that segment of the political elite which had close ties to thegovernment. Faith in the Central Bank, exchange controls, and other forms ofgovernment intervention were coming on the heels of the ideas of unrestrainedinflationism, overlapping them, it seemed.
Not surprisingly, a strong government isamong the most popular catchwords today. Its zealots, however, are habituallywrong in tracing the reasons for weak government in post-communist Russia. Itis held that weak government is a byproduct of the liberal ideology that soughtto put the government beyond the economic framework, depriving the country ofan effective tool to implement the economic policy and correct the “marketflaws.” To restore the nation’s economic and political might, it is essential, therefore, tobrand the previous doctrine as a mistake and to start working to consolidatethe government and, particularly, to allow it to expand its influence on thecountry’seconomy.
The reality is at great odds with thisperception of the situation. It is not to be blamed on liberalism, for theliberal ideology upholds strong government acting within the rigid confines ofthe law. The absence of such government is exactly the hurdle that stands inthe way of a liberal economic policy. Weak government is the hallmark ofpresent-day Russia, brought about by the array of forces at work in its briefpost-communist history. The first sign of weak government is its inability tocollect taxes or put merciless budgetary constraints on businesses. Anothersign of government weakness is crime – corruption in the civil service,on one hand, and the omnipresence of powerful criminal cartels usurping manygovernment functions (arbitration, contract enforcement, protection ofproperty), on the other. Deeper intervention by government officials in theeconomy under these conditions would further corruption and bureaucratic abuse,rather than work toward stronger government.
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