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Knights of the Vine RUSSIA


The Way It Was

1995
The story so far: the Soviet Union ended abruptly in 1991 after an abortive coup, and Yeltsin wrenched power from the master manoeuvrer Gorbachev. A brief tide of support for western-style democracy that Yeltsin tried to usher in turned nasty when IMF-approved economic reforms resulted in real economic hardship for most. The illusion that the communists had finally retreated broke in 1993 when conservative grouping around the vice-president Rutskoi moved to prevent Yeltsin from carrying out his objectives of establishing parliamentary elections and eventually establishing a presidential republic. The stand-off ended with pro-Yeltsin forces firing shells at the Russian parliament in October of that year. Yeltsin had won, but the sense of victory, as in 1992, was short-lived.
By 1994 disillusionment had set in once again. Corruption had reared its ugly head, poverty was endemic and from December onwards the country was mired in a dirty civil war in the breakaway republic of Chechnya, which both showed how unprofessional the Russian army was, and dragged the leadership’s popularity down. After an initial campaign in December 1994 which culminated in the devastating battle for Grozny, the Chechen rebels, who included previous high-ranking Soviet army officials, based themselves in impregnable mountain strongholds and resorted to guerrilla warfare, giving the Russian forces no reason to celebrate.
John Harrison

With the popularity-sapping Chechnya war dragging on all year, neither Yeltsin nor his government retained much support in the country. The majority of the population, including such eminent politicians as ex-prime minister Yegor Gaidar, one of the architects of the country’s reform programme, were firmly against it.

Their antipathy was heightened when a group of Chechen terrorists headed by Shamil Basayev took between 1,500 and 1,800 patients, doctors and nurses (nobody knows the exact figures) hostage in a hospital in Budyennovsk, a town 70 miles north of the Chechen border, failed. Basayev issued ultimatums which included an end to the war and direct negotiations by Russia with the Chechnya regime. Basaev also demanded that reporters be allowed on the scene. Six hostages were shot because reporters were not allowed through the army cordons. Three days later, Russian forces attempted to take the hospital compound. After several hours of fierce fighting in which 61 hostages were freed, a cease-fire was announced and 227 hostages were released. A second attack failed, as did a third, resulting in heavy casualties. The whole country witnessed the action by television; we saw the dirty white bed sheets hung out of the windows as patients tried to indicate to Russian troops that they shouldn’t fire. Yeltsin’s human rights advisor described the scene: “In half an hour the hospital was burning, and it was not until the next morning that we found out what happened there as a result of this shooting. I saw with my own eyes pieces of human flesh stuck to the walls and the ceiling and burned corpses.”

Eventually Russia agreed to a cessation of military activities against Chechnya and to hold peace negotiations, which failed. However the Budyennovsk crisis was, perhaps, the turning point in the Chechen war, after that, it was very difficult for Russia to regain the initiative, both militarily and psychologically.

But Yeltsin was not alone. The Russian Orthodox Church supported his invasion of Chechnya and his diplomatic stand on the Kosovo question. The Church sensed that a communist restoration would have hurt their prospects very seriously. However, having the Church on your side wasn’t enough, as the duma elections in December showed.

Loyal Prime Minister, Victor Chernomyrdin, formed a party named Our Home is Russia as a kind of “government party”. In 1995, as in 1993, half of the 450 seats in the lower house of the new duma, were filled by in-house party voting, the other 255 by local elections by candidates fielded by members of a party or independents. Chernomyrdin had huge advantages over the opposition as his party had access to serious financing and time on television, yet the government party took only 65 seats of 450. The communists won 157 seats by spending little money but using a large nation-wide organisation to spread the word, which went down well in the circumstances. Now Gennady Zyuganov, head of the Communist Party, together with other left wing groups made up a majority.

“In half an hour the hospital was burning, and it was not until the next morning that we found out what happened there as a result of this shooting. I saw with my own eyes pieces of human flesh stuck to the walls and the ceiling and burned corpses.”

The Duma elections, Zyuganov declared, handed the Communists a popular mandate for reversal of the whole reform agenda. To Zyuganov, the country and its assets had fallen into the hands of the IMF, and Yeltsin and Chernomyrdin were merely agents of a new anti-Russian pact. Yeltsin and Chernomyrdin continued to trim back the project for reforms. Russia’s headlong flight into capitalism was halted, temporarily, in 1995.

Foreign Minister, Andrey Kozyrev, one of the original team of young reformers, was sacked after the December elections, and Yeltsin tightened up his foreign policy, now not afraid to use oil as an instrument in negotiations where necessary. Yet Yeltsin could do little about the encroachment of western powers around its borders. Finland joined the EU in 1995, and plans were laid for accession of many Eastern European countries. Worse still for the Russian government was NATO’s refusal to disband itself after the end of the Cold War. Quite the opposite, it set out on a course of expansion—in Bosnia 1993-1995, for example. But Russia had lost its influence in the world, even in Eastern Europe.

But despite his compromises, Yeltsin’s popularity ratings still sank. Why? Had he not come to power on a popular mandate of reform? Yes, but few people realised what reform actually meant, including, perhaps, the leadership itself. Shock Therapy, the favourite catchword of the IMF in those days, went badly wrong. In “Russia’s Path from Gorbachev to Putin: the Demise of the Soviet System and the New Russia” by Fred Weir, the premise that the Russian economy needed to be transformed rapidly is questioned. However Yeltsin had promised people a rapid period of reform, in contrast to Gorbachev’s gradualist approach of reforming socialism which was seen to have failed. He had promised it all; quickly, he had to do it.

The first major principle of Shock Therapy was price liberalisation. Prices rose 350% in January 1992 alone, a far higher rate than IMF experts had predicted. Even as late as 1995, inflation was measured at averaging 4.1% a month, whilst pay rises simply could not keep up. Inflation drove down the value of the rouble, making western imports expensive, but Russia’s consumer products also rose in price, as producers had to pay more for raw materials and wages. An increase in local supply, which is what price liberalisation is supposed to bring about, did not happen.

To fight inflation by reducing the money supply, government spending was slashed by more than 40% in real terms during the first quarter of 1992. By 1993 Russia’s public spending was comparable to that of the US at 34.5% of GDP. Taxation was cut, and as a result, despite spending cuts, the government could not quite balance its budget after the first quarter of 1992. Overall, spending cuts went according to plan, and one of the ways this was achieved was to simply refuse to pay money out, even to institutions such as world-class scientific institutes which had been allocated resources previously.

However, less money meant enterprises had great difficulty in obtaining the capital they needed to invest in plant and machinery, so opportunities were lost for the development of Russian industry. Spending cuts undermined Russia’s technological potential. Productivity fell drastically, a trend that continued until 1998. GDP fell by 42% and industrial production by 46% in 1991-1994. By comparison, production fell 30% during the Great depression of 1929-33 in the US.

The cuts meant that the only way that even the most honest officials could exist was by accepting bribes. And though inflation was curbed it was not broken. It was only with the appointment of a new chairman of the central bank, Victor Geraschenko, who in the years to come eased the money supply somewhat, that inflation began to come under control. A tendency began to be noticed that inflation fell when the monetary policy was eased. If a really tight monetary policy had been strictly adhered to all the way through, the desired results would have been achieved, but at a cost in terms of unemployment and social unrest that no leader was prepared to accept.

The next lynch-pin of Shock Therapy, Privatisation, proceded more quickly than had been expected. By 1994 about two-thirds of state and municipal enterprises were in private hands. However this didn’t necessarily mean that the enterprise concerned was better run than before. In many cases, they were eventually taken over by the previous management who might have been good managers, but who were good managers under the Soviet system. Alternatively, they were run by people who had very little experience. Soviet Russia had no legitimate wealthy class of people who could buy state enterprises. It was only natural that rapid privatisation would place the enterprises in the hands of the old elite, or the mafia. It was naïve to assume that they could be transformed into successful companies in a year or two. Even if they had successfully transformed themselves, they would have become public monopolies rather than state monopolies.

The next lynch-pin of Shock Therapy, Privatisation, proceded more quickly than had been expected. By 1994 about two-thirds of state and municipal enterprises were in private hands. However this didn’t necessarily mean that the enterprise concerned was better run than before. In many cases, they were eventually taken over by the previous management who might have been good managers, but who were good managers under the Soviet system. Alternatively, they were run by people who had very little experience. Soviet Russia had no legitimate wealthy class of people who could buy state enterprises. It was only natural that rapid privatisation would place the enterprises in the hands of the old elite, or the mafia. It was naïve to assume that they could be transformed into successful companies in a year or two. Even if they had successfully transformed themselves, they would have become public monopolies rather than state monopolies.

Price liberalisation and privatisation resulted in all three of the main components of total demand, as taught by John Maynard Keynes, consumer demand, investment demand and government spending, declining. It is no wonder that supply also declined.

On the trade barriers front, Russia followed her IMF mentors closely and liberated its import regime in January 1992. There was even a brief period when all import tariffs were temporarily abolished. The rouble was disengaged from government exchange controls and began to float freely by July 1992. While unrestricted imports were encouraged, exports were still subject to various kinds of licensing agreements and quotas.

As a result, foreign products quickly replaced Russian goods in the main cities. The new rich and the small new middle class were the main market, but the majority of Russians who were left with very little purchasing power, relied on cheaper domestic goods, and didn’t buy very much, even of them. Thus the new imports exerted less of a stimulus for product improvement or price restraints than free trade was supposed to do. Most of Russia’s industry was not able to compete with foreign competition. This was certainly was not the policy which today’s leading economies—China, the USA, Germany and Japan, followed in earlier periods when they faced and face superior foreign competition. Russia’s declaration of welcome for foreign investment failed to produce much money. The conditions created by shock therapy did not create a favourable investment environment.

Of course some gained, for example the banking class, those who gained ownership or privatised raw materials firms or who invested in real estate and housing construction. Some politicians are reputed to have become very wealthy. A small middle class grew up in the major cities. But the new rich sent most of their wealth abroad and few invested in production in Russia. Organised crime enjoyed a blissful and noisy boom.

It is no wonder then that the Communists had the upper hand in the State Duma in 1995, well positioned for the presidential race scheduled for July 1996. Instead of seeing Russia become more democratic, Russians saw Yelstin becoming more and more authoritarian with decisions that affected the whole country being made behind closed doors. Ironically, it was the costs and failures of Shock Therapy that threatened the transition to capitalism.







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