Publication: Prism Volume: 1 Issue: 20

The myth of economic stabilization in Russia

by Victor J. Yasmann

Official figures in Russia show the ruble rising, inflation falling,government revenues up and budget deficits down. The politicianswasted no time: "Russia has entered a period of economicstabilization," declared First Deputy Prime Minister AnatolyChubais.

Some of August’s economic indicators do in fact look better thanthose of previous months — but the numbers say little or nothingabout Russia’s real economy. There are many signs that this "stabilization"is phony, a product of administrative manipulation by incumbentsintent on retaining power through the elections. This devil-take-the-hindmostpolicy could produce economic catastrophe when the elections areover.

Elections: off again, on again

The relationship between political strategy and economic policyis worth close examination. At the beginning of the year, BorisYeltsin’s close political associate, speaker of the upper houseVladimir Shumeiko, floated the idea of canceling the parliamentaryelections and extending the presidential term by referendum. OlegBoiko, chairman of the National Credit Bank and an ally of PresidentYeltsin and Prime Minister Viktor Chernomyrdin, called for a two-yeardelay.

Economic arguments were offered to bolster the case for delay.Finance Minister Vladimir Panskov and Economic Minister EvgenyYasin argued that political consolidation — and hence postponementof elections — was vital for economic stabilization. Prime MinisterChernomyrdin told the Financial Times that the idea ofelections "horrified" him for the same reason. In March,Aleksandr Yakovlev, a veteran of political reform and Kremlinintrigue, opined that elections might be canceled due to apathy,while Aleksandr Solzhenitsyn denounced "election fever"as a "political game that distracts the Russian people fromthe work of reconstruction of their country."

The prospect of delayed elections naturally infuriated many ofYeltsin’s opponents. Perhaps surprisingly, it distressed manyof his supporters as well. They believed that without elections,the government would slide toward an increasingly rigid, anti-Westernand xenophobic autocracy. Such a regime would inevitably provokeWestern antagonism, and without Western support the privilegedposition of the ruling bureaucratic class would be threatened.

Concern about Western reaction was probably decisive for Yeltsin.In early May, at the height of the Chechen war, Yeltsin met withPresident Clinton, German Chancellor Helmut Kohl, and other westernleaders. No doubt he got the message that not even his most ardentWestern supporters could not accept delays, and he promised thatelections would proceed on schedule. By the end of May he hadendorsed the formation of a center-right bloc under Viktor Chernomyrdinand a center-left bloc under lower-house speaker Ivan Rybkin.

With delay no longer an option, the political position of the"Party Of Power" (as President Yeltsin and his incumbentallies on both left and right are called) was increasingly precarious.The president’s popularity had fallen to new lows, while his numerousopponents seemed all to be gaining momentum — and the time beforeelections was short.

But Yeltsin and Chernomyrdin still retained control of a numberof powerful levers of policy, and they moved quickly to securesuch advantage as they could. On the political front, they turnedto their parliamentary allies Shumeiko and Rybkin to secure passageof new election legislation that favored incumbents, althoughnot overwhelmingly (see Victor Yasmann, "The Russian ElectionCampaign Begins," Prism, No. 12, July 21,1995). Moreimportantly, they saw an opportunity to direct economic policytoward a voter-pleasing boom in consumption, in the guise of "stabilization."

Electoral Economics

In April , the International Monetary Fund disbursed to Russiathe first tranche of its $6.5 billion stabilization loan. Theloan is intended to support, and is conditioned on, an austeregovernment budget, falling levels of official debt, declininginflation (to around 3 percent per month, or about 40 percentper year), and accelerated liquidation of inefficient state enterprises.

The IMF disbursal coincided with the beginning of a rise in theruble against the dollar. The appreciation of the ruble suggestsa decline in inflation — if a ruble buys more dollars, it shouldalso buy more goods. But in fact inflation in the summer of 1995was running ahead of the summer of 1994. The rise in the ruble’svalue was the result not of "financial stabilization"but of an increased supply of dollars generated by short-termexternal borrowing and other administrative measures. Inkombankvice president Sergei Zatsepilov commented that the "combinationof a strong national currency and high inflation is unnaturaland unwarranted and will lead to a crash of the ruble."

Unnatural or not, the strong ruble made imports cheaper — by38 percent on average frrom June to August — and foodstuffs fromabroad made their way to markets in Moscow, St. Petersburg, Ekaterinburg,Nizhny Novgorod, and other centers of population. The government’sstanding with urban constituents rose as import prices fell.


Of course there is no such thing as a free lunch. As import pricesfell, export prices rose. Political gains in the cities had tobe weighed against losses among exporters, particularly in theenergy sector, which is Chernomyrdin’s power base. Gazprom chairmanRam Vichyarev, who in May had enthusiastically backed the creationof Chernomyrdin’s "Russia is our Home" coalition, denouncedthe Chernomyrdin’s monetary policy as "an attack on the energysector."

Gazprom received another blow when First Deputy Prime MinisterAnatoly Chubais announced an increase in the excise tax on gasfrom 15 to 20 percent, and again when energy-sector tax exemptionswere cut back on September 1st. Energy prices rose 9.3 percentin August (twice the rate of inflation), and profits at Gazpromwere down by 15 percent and falling.

The economic pain carried a political cost, and Chernomyrdin inparticular has paid it. Ram Vichyarev and other energy bossesrefused to attend the August convention of "Russia is ourHome," and Vladimir Medvedev, chairman of the Union of RussianOil and Gas Producers and head of the "New Regional Policy"group in the Duma, withdrew his name from Chernomyrdin’s electionlist.

For Chernomyrdin, who was the founder of Gazprom, it could nothave been easy to oppose his old friends. He acted under heavypressure from Yeltsin’s entourage, some of whom may have intendedhis undoing. For example, a secret memo from state security colonel-generalMikhail Barsukov to Chernomyrdin, urging higher energy taxes toboost government revenues, was leaked to Izvestiya. Itspublication provoked an outcry from Yeltsin’s opponents againstBarsukov, whom they accused of exceeding his competence. But ifBarsukov’s purpose was to alienate Chernomyrdin from his politicalbase in the energy industry, he was competent indeed. Chernomyrdinhas lost the support of Gazprom, and his strength as an independentpolitical figure has been reduced.


Chernomyrdin has now turned from the energy sector to the banksin search of political support. For the election campaign, heis relying heavily on backing from a consortium of the eight largestRussian banks, led by Chairman Boris Berezovsky of Logo VAZ bank;Chairman Oleg Boiko of National Credit; and Stolichnyi Bank directorAleksandr Smolensky, who is personally loyal to Yeltsin. Increasinglybeholden to the banks, Chernomyrdin is also increasingly beholdento Yeltsin.

The electoral strategy throws new light on the August bank crisis.To ensure cheap imports for the urban voters, the government neededan overvalued ruble. To keep the ruble strong, dollars had tobe plentiful. And where were the dollars? In Russia’s 2,500 commercialbanks, where Russians skeptical of the ruble kept their hard-currencysavings.

To break the dollars loose, the Central Bank first raised thebanks’ reserve requirement — the required ratio of cash on handto total assets — from 8 to 20 percent. The Central Bank thenimposed a 43 percent tax on these reserves, forcing a massivetransfer of liquidity from the commercial banks to state accounts.Liquidity in the commercial banking system dried up, and manysmaller banks were forced to close — over 100 in Moscow alone.Panicky investors transferred their assets to larger banks, inparticular to members of the eight-bank consortium now backingChernomyrdin. And many investors simply cashed in their dollars,thereby shoring up the ruble in what former Minister of EconomicsSergei Glasyev called a "government-run pyramid scheme"(see, Glasyev Blames Government For Banking Crisis, PrismNo. 18, September 8, 1995).

Stripped of rhetoric and intrigue, the real political and economicsituation in Russia is cause for deep concern:

Economic and financial stabilization is a fraud and failure.

Industrial output continues to fall despite official statistics.This year agricultural output is falling as well.

Living standards are falling for many segments of the Russianpopulation.

Massive arrearages and defaults triggered by the banking crisishave weakened many vital institutions, including the Armed Forces.

In the election campaign, competing elites remain just that. Theyhave failed to transform themselves into differentiated politicalparties that represent broad popular interests.

The Mexican Connection

Against this background, some observers argue that what is neededis more state control, not less. They advocate the adoption inRussia of the Mexican political model — that is, the creationof a Russian version of Mexico’s Institutional Revolutionary Party,or PRI, that would bring the entire governing elite together underone political umbrella.

There are some parallels between the situation in Russia todayand Mexico in 1994. In Russia as in Mexico, the "party inpower" faces competition from outside forces. In Russia asin Mexico, rapid economic modernization and the drive toward theIMF-sponsored goals of lower deficits, lower inflation, acceleratedprivatization and greater investment, are producing social andpolitical strains that are difficult to accommodate. And likethe Mexican government in 1994, the Russian government of Chernomyrdinand Chubais pursues a strategy of "financial stabilization"through an overvalued currency that gives the urban populationin particular a false sense of new-found wealth and buying power.

In Mexico, financial panic and massive devaluation of the pesofollowed the electoral victory of the PRI in 1994. The same fatemay await the Russian ruble. The IMF loan of $6.5 billion maysupport a bubble of strength for the ruble, but even if fullydisbursed it is not nearly enough to prevent a subsequent collapse.

The consequences of the collapse of the ruble would be at leastas devastating as those of the peso. Russia’s geopolitical andstrategic weight in the world is greater than Mexico’s, its economyis larger, and its disgruntled, underpaid, and corrupt militaryestablishment has at its disposal an enormous arsenal of conventionaland nuclear weapons. In the event of an economic catastrophe,Russia, with its uncertain institutions and relative isolation,will find the return to a path of stability and growth not merelydifficult but perhaps impossible to achieve.

(Sources for this article include: Delovoi mir, Kommersant-daily,Kommersant-weekly, Vek, Ekonomika i zhizn, Financial Times, Izvestiyaand Pravda.)

Victor Yasmann is a Senior Analyst with the Jamestown Foundation