By Jan Nowak
As the 1980s progressed, it became increasingly apparent that the economic predicament of the USSR was not only a deeply rooted systemic issue, but an existential one as well. Malaise and inefficiency characterized the system which began to buckle under the weight of increasing military spending and a pervasive lack of both capital and consumer goods. From 1974 to 1984, average economic growth was only 0.93% per year, and from 1985-1991, economic growth was -1.3%. [1]The inefficiency of the system was staggering––share of capital in output dropped from over 75% in 1950 to around 10% by 1986[2], and total factor productivity growth in the total economy from 1980-1987 averaged -0.2% annually[3]. Coincidingly, the popularization of the Chicago School of Economics led by Milton Friedman resulted in the global fetishization of the neoliberal economic model and a global public opinion shift away from the state-socialist model. It had become apparent that the rapid growth of the Soviet Union during the earlier stages of its existence had not been sustainable, and the communist model was not competitive with the Western and East Asian capitalist models. One of the primary causes of dysfunction for the Soviet command economy was in its very name––by design, a command economy could not respond as efficiently as a market economy to changing consumer and supplier needs. Additionally, as a result of different government programs such as Gorbachev’s failed anti-alcohol campaign, rigid production fulfillment quotas, low wages, and prohibition of certain market sectors, the seeds were sown for the creation of a vibrant “second economy” in the Soviet Union. With a significant amount of unregistered economic activity, not only were government initiatives undermined, but budgets became difficult to balance, and power and wealth began to accrue outside of the official state economic sphere.
The term “second economy” refers to unofficial economic activity that takes place outside of formal, state sanctioned economic frameworks. The idea was largely defined by mid-twentieth century economist W. Arthur Lewis. His theory assumed that there was “an unlimited supply of labour in most developing countries and that this vast pool of surplus labour would be absorbed as the modern industrial sector in these countries grew.” As per his theory, “the traditional [i.e. informal] sector… would eventually be absorbed into the formal economy and disappear.”[4]According to this interpretation of the term, the second economy was inherently a characteristic of developing economies in which economic contributions of informal or unofficial actors would, with the progression of time and the successful socio-political transition into developed capitalist societies, begin to adhere to formal state institutions, regulations, and laws. Keith Hart, a pioneer in the field of economic anthropology in the 1970s and 1980s, defined the informal economy as a “label for economic activities which take place outside the framework of official institutions”[5]. He went further in his economic analysis, specifically in regard to the developing economies of African nations:
“At a 1971 conference on urban unemployment in Africa, Hart argued that the masses who were surplus to the requirements for wage labour in African cities were not ‘unemployed,’ but rather were positively employed, even if often for erratic and low returns. He proposed that these activities be contrasted with the "formal" economy of government and organized capitalism as ‘informal income opportunities.’ Moreover, he suggested that the aggregate intersectoral relationship between the two sources of employment might be of some significance for models of economic development in the long run. In particular, the informal economy might be a passive adjunct of growth originating elsewhere or its dynamism might be a crucial ingredient of economic transformation in some cases”[6].
Hart’s conclusion was that to disregard informal economic activity in statistical analyses threatened the practical significance of economic research in evaluating states that had large unofficial, second, shadow, or informal economies, as they came to be known. In the Soviet Union, where economic activity was almost entirely a public rather than private function, the informal economy is thus generally dubbed the “second economy.” The key semantic distinction here lies in the ideological illegitimacy of this unofficial economic activity. In a classical liberal economy, informal economic activity is either penalized as tax evasion, or overlooked, such as in everyday transactions such as babysitting, tutoring services, or certain aspects of the modern “gig-economy.” For example, in the United States, the “second” economy is perhaps better understood as simply “unofficial” and/or illegal––such market activities still fundamentally comply with the structure of market based private economic activity, despite their illegality. In the Soviet Union, however, any private economic activity was––doctrinally, at least––incompatible with the very nature of the state planned economy. For the purposes of this paper, the second economy will refer to the informal economy of the USSR, focusing solely on extra-legal “traditional” economic activity as opposed to illegal activities involving organized crime, racketeering, as well as the sale and distribution of drugs, weapons, and other illicit goods.
While economic participation in the USSR’s second economy was commonly accepted, it must be noted that there existed various dynamics which bypassed traditional economic channels in the Soviet Union, namely: diversion of state property, use of state property, ultra vires use of administrative power, private trading, professional activity in the sphere of production, distribution, and services (e.g. tutoring, small scale fishing or artisanal production), and bribery.[7] Due to the inherently extra-legal nature of the second economy, the line between informal economic activity and what is considered to be “traditional” or “typical” illegal endeavors (such as robbery, bribery, etc) becomes obscured. This line becomes especially difficult to specify when “most, but not all, individuals manage to participate in the illegal parallel markets without negative consequences.”[8] Thus, the grandmother making extra money selling her dacha-grown vegetables to neighbors, the factory boss diverging product for private gain, and the currency speculator selling dollars for rubles all fall under the same “terminological umbrella,” despite the very different nature (and public perception) of their illicit economic endeavors.
The second economy during the Soviet era was also unique for the value people placed on interpersonal relationships rather than financial means. Personal relationships heavily influenced one’s ability to acquire scarce, high quality, or illegal goods and services. This type of informal exchange where goods could be “acquired through informal channels by using strong and weak network ties”[9] was referred to as “блат” (blat). While it was nearly universally cheaper or more worthwhile to purchase goods and services in the second or informal economy using blat, the value of one’s network can be considered to have been a market in and of itself. Just as some people may have been able to access scarce goods and receive better services as a result of their network, many other people would not have been able to reap the benefits of strong party connections. Because of the nuances of this informal channel of provision of goods and services, blat presented a market-like dynamic to the socialist command economy, where social means were more valuable than financial ones––“The price for [goods received as a result of blat] was much lower than at the black market and was close to the state regulated level, but access to these goods was controlled by social networks. It was not so important to have financial resources, but gaining access to scarce goods and services and being well-connected were vital”[10].Thus, there were several elements to the informal or second economy in the Soviet Union. While on one hand nearly everyone had access to the black market, the practical ability to acquire goods and services was dictated primarily by one’s connections. Friends and family in high places could make it infinitely easier to acquire a brand new Lada, Moscow apartment, or high quality food as compared to impersonal access to the black market and strictly financial means.
The Soviet Union’s second economy grew significantly during the so-called period of “stagnation,” coinciding with Brezhnev’s term as General Secretary of the Communist Party.[11] However, due to the complex system of incentives that encouraged corruption, manipulation of inputs and outputs, and falsification of reported production figures, the second economy became heavily tied to the so-called “fictitious economy.” It was this “economy” which had the largest role in the subversion of Soviet economic activity, and is generally referred to as the cause of economic stagnation caused by egregious inefficiency. In fact, the “shadow” [ie., second or unofficial] economy did not play a particularly significant role in the Soviet era, but the fictitious economy was flourishing. It meant that economic actors did not hide their output from the state, but tended to overvalue it.”[12] Such overvaluation and acts of misreporting for the advantage of local enterprises was referred to as “приписки”(pripiski). The dynamics of the second and fictitious economies heavily complemented each other––while the former refers to genuine economic activity that subverted the observed or official economy, the latter refers to economic activity that existed on paper, and nowhere else. The fictitious economy is perhaps most strikingly visible in Figure 1, which shows a graph comparing estimated Soviet national income as reported by official state figures, the CIA, and Grigorii Khanin, a Soviet Russian economist.
Incentives to overvalue production, soft-budget constraints for public enterprises, and petty corruption resulted in the creation of an economy that created vast “fictitious” swaths of pseudo-economic activity. The impact of the fictitious economy can be visually simplified in the discrepancy between official and third-party figures of economic performance.
The inefficiencies, shortages, and general corruption caused by the fictitious economy directly undermined the Soviet state, yet also fueled the expansion of the second economy by systematically causing much of its demand. Goods and services that were in short supply or of low quality (due to misreporting and misadministration caused by the fictitious economy) became supplied by the second economy. For this reason, the second economy became more prevalent in certain economic sectors compared to others, “[appearing] less widespread in heavy industry, banking, finance, and the military and more pervasive in sectors such as construction, food, repairs, light industry, transport, wholesale and retail trade, and personal services from doctors’ services to waiters’ services.”[14] Such an arrangement of the second economy is natural, as large manufacturing or industrial ventures are difficult to operate covetly––informal small transactions for food services, childcare, home repairs, and consultation are much more common.
The tacit acceptance and of corruption and undermining of legal state-endorsed channels for economic activity are a distinct and well known feature of Russian society. Obydenkova and Libman demonstrate this relationship through a socio-economic analysis of the relationship between corruption and the legacy of the Communist Party, noting the “strong and heterogeneous impact of Communist legacies on various aspects of modern corruption”[15], and how “stronger CPSU legacies resulted in increased demand for corruption by street-level bureaucrats, [although] the population also is more willing to pay bribes or to tolerate corrupt practices.”[16] In reflecting on these correlations, it is important to point out that corruption in Russia has trended downward since its peak in the direct aftermath of the post-Soviet economic transition. According to Transparency International, Russia’s Corruption Perception Index Score (where 0 is most corrupt and 100 is the least corrupt) has steadily increased since data has become available, averaging in the low 20s in the late 1990s and rising closer to 30 in the past few years of the last decade.[17]The increase of state functionality is largely a result of Putin’s centralization of state control over the economy, allowing for Russia to be included in the list of so-called “BRIC” countries. By 2009, Russia had maintained the highest GDP growth as a percentage of its 1999 GDP out of all BRIC countries, at 500% of GDP compared to ten years prior.[18] This was due largely to the establishment of a functionally regulated market economy, a shrinking second economy, and notably, post-contraction rebound growth.
Today, the informal economy remains, though on a much smaller level than in decades passed. Centralization of power by the state has resulted in “a new set of informal rules for cooperation between big business and the authorities” as a result of “growing pressure on business through the tightening of the requirements for legal activities”[19]. As Russia continues to modernize and shape a cultural identity increasingly separate from its Soviet heritage, the evolution of the use of informal channels in political and economic relationships will continue to define the nature of civil society and the domestic economy in Putin’s Russia.
Jan Nowak is a senior at the University of Pennsylvania studying International Relations.
Bibliography
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[1] Mazat, Numa and F. Serrano. “An analysis of the Soviet economic growth from the 1950 ’ s to the collapse of USSR * . ( Second draft ).” (2012), 6.
[2] William Easterly and Stanley Fischer, “The Soviet Economic Decline,” The World Bank Economic Review 9, no. 3 (1995): pp. 341-371, https://doi.org/10.1093/wber/9.3.341, 358.
[3] William Easterly and Stanley Fischer, “The Soviet Economic Decline,” The World Bank Economic Review 9, no. 3 (1995): pp. 341-371, https://doi.org/10.1093/wber/9.3.341, 353.
[4] Kristina Flodman Becker, “The Informal Economy,” Sida, March 2004, 10.
[5] Keith Hart, “Informal Economy,” The New Palgrave Dictionary of Economics, 1987, pp. 54-58, https://doi.org/10.1057/978-1-349-95121-5_804-1, 54.
[6]Keith Hart, “Informal Economy,” The New Palgrave Dictionary of Economics, 1987, pp. 54-58, https://doi.org/10.1057/978-1-349-95121-5_804-1, 54-55.
[7] F. J. M. Feldbrugge, “Government and Shadow Economy in the Soviet Union,” Soviet Studies 36, no. 4 (1984): pp. 528-543, https://doi.org/10.1080/09668138408411553, 530-531.
[8] Louise I. Shelley, “The Second Economy in the Soviet Union,” The Second Economy in Marxist States, 1990, pp. 11-26, https://doi.org/10.1007/978-1-349-20422-9_2, 19.
[9] Svetlana Barsukova and Vadim Radaev, “Informal Economy in Russia: A Brief Overview,” Journal of Economic Sociology 13, no. 2 (March 2012): pp. 4-12, https://doi.org/10.17323/1726-3247-2012-2-99-111, 5.
[10] Ibid.
[11]SAMPSON, STEVEN L. “The Second Economy of the Soviet Union and Eastern Europe.” The ANNALS of the American Academy of Political and Social Science 493, no. 1 (September 1987): 120–36. https://doi.org/10.1177/0002716287493001009, 133.
[12] Svetlana Barsukova and Vadim Radaev, “Informal Economy in Russia: A Brief Overview,” Journal of Economic Sociology 13, no. 2 (March 2012): pp. 4-12, https://doi.org/10.17323/1726-3247-2012-2-99-111, 4.
[13] Mark Harrison, “Soviet Economic Growth since 1928: The Alternative Statistics of G. I. Khanin,” Europe-Asia Studies 45, no. 1 (1993): pp. 141-167, https://doi.org/10.1080/09668139308412080, 145.
[14] Steven L. Sampson, “ANNALS, AAPSS, 493, September 1987 The Second Economy of the Soviet Union and Eastern Europe,” Occupational Crime, May 2018, pp. 120-136, https://doi.org/10.4324/9781315193854-17, 124.
[15] Anastassia Obydenkova and Alexander Libman, “Understanding the Survival of Post-Communist Corruption in Contemporary Russia: the Influence of Historical Legacies,” Post-Soviet Affairs 31, no. 4 (2014): pp. 304-338, https://doi.org/10.1080/1060586x.2014.931683, 331.
[16] Ibid.
[17] “Russia,” Transparency.org (Transparency International), accessed October 10, 2020, http://www.transparency.org/country/RUS.
[18] Clifford G. Gaddy and Barry W. Ickes, “Russia after the Global Financial Crisis,” Eurasian Geography and Economics 51, no. 3 (2010): pp. 281-311, https://doi.org/10.2747/1539-7216.51.3.281, 291.
[19] Irina Meyer, “Russia's Informal Economy: Rules of the Game for Business.,” Demokratizatsiya: The Journal of Post-Soviet Democratization27, no. 1 (2019): pp. 3-7, https://doi.org/doi:10.1016/s0176-2680(99)00050-6, 5-6.
