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Plan? What plan? Professor Lipsitz on how micromanagement is burying the Russian economy

Since the late summer, Russia has grappled with gasoline shortages. To illustrate, on October 23rd in Yekaterinburg, Lukoil customers found themselves unable to refuel with 92, 95, or even 100-octane gasoline. Russian authorities are struggling to address this crisis through micromanaging economy, for example by placing temporary restrictions on exports. While this approach may yield results in urgent situations, Professor Igor Lipsitz cautions that there exists a substantial risk of over-reliance on this quick-fix strategy. As has been well-documented since Soviet times, micromanagement tends to result in elevated costs, diminished labor productivity, subpar product quality, and a surge in corruption.

How Russia embraced micromanagement

Micromanagement, as a practice, involves influencing economic processes in a country not through the creation of consistent and universal rules, but through the sudden implementation of emergency decisions designed to address unforeseen problems. In Russia, the integration of micromanagement into the broader system began in the early 2000s, but it gained prominence as a systemic factor in the functioning of the national economy with the onset of the coronavirus pandemic.

This approach was notably employed to quell the panic in the Russian foreign exchange market in 2022. In 2023, we observed the government's rapid response to the issue of fuel shortages and price increases. Thanks to swift emergency measures, including the prohibition of exports, these challenges were effectively resolved. However, it's essential to recognize that the government itself created this situation by reducing the fuel dumper and, consequently, deviating from the standard regulations that had been in place in recent years.

As part of its micromanagement strategy, the Ministry of Finance made a decision to save on the fuel damper to get an additional 30 billion rubles per month for the budget. The market reacted instantaneously; wholesale exchange prices surged during the summer, and the threat of a fuel shortage on the domestic market materialized due to increased exports. As a result, the artificial crisis had to be rapidly resolved once again through manual intervention, involving the imposition of a ban on the export of diesel and gasoline from Russia. This decision was made swiftly and took immediate effect.

It is convenient when the decision-makers are identifiable, and accountability is clear, as illustrated in the example above. However, in cases where regulatory acts are adopted, it becomes less evident who bears personal responsibility for the outcomes, who should face penalties, and who should be rewarded with medals. Additionally, as we can see, undoing an unsuccessful decision made through “micromanagement” is also easy, bypassing the need for lengthy legislative processes in the State Duma.

One notable advantage of “micromanagement decisions” is their ability to provide a straightforward narrative to the population, reassuring them that the government is unwaveringly dedicated to safeguarding their interests. Take, for instance, when the ruble's exchange rate plummeted to 100 per dollar. In response, the President of Russia promptly convened a meeting and instructed specific exporters (not all of them!) to repatriate currency to the country. This action resulted in a slight reduction in the dollar's exchange rate. Such actions underscore the government's alertness and commitment to its duties. Furthermore, they present a compelling image for the people – the President himself making an appearance, conducting a meeting with the key figure, preserving jobs, and even reclaiming his pen from Deripaska – remember the Pikalevo crisis?

Finally, the practice of micromanagement simplifies the process of favoring specific individuals and businesses, thereby fortifying the political and economic underpinnings of the regime through reciprocal advantages. This dynamic was unmistakably on display during the 2008 crisis when it became apparent that certain companies received substantial government backing, subsequently forging close ties with the authorities, rendering various forms of support. Conversely, some entities received no assistance, grappled through arduous times, and a few succumbed to bankruptcy. During that year, “resisting crisis phenomena was carried out without a unified state anti-crisis program, relying on the implementation of localized measures to bolster the economy and individual enterprises and sectors.” The number of bankruptcies among Russian companies in 2009 soared to a historical peak, a record that stands unbroken to this day.

The practice of micromanagement simplifies the process of favoring specific individuals and businesses

However, it cannot be unequivocally stated that micromanagement is always an erroneous approach. It can function effectively for a brief period during emergencies when there's no time to develop a legislative proposal and go through the parliamentary hearing process. For instance, this method was successfully employed by U.S. President Franklin Roosevelt during the Great Depression. But this mode of governance must be used with extreme caution, exclusively during extraordinary circumstances, and it should not become a habit where negative consequences accumulate due to constant reliance on it.

No vision of the future equals no investments

The trouble is that such a model can easily become habitual. This presents significant challenges for businesses that lose their understanding of what conditions they can expect to operate under in the medium and long term. For example, a company devises an action plan, initiates an investment project for production growth and profit generation, only for the government to suddenly shift its direction, rendering all calculations meaningless. Such uncertainty raises business risks, subsequently leading to price hikes - as investors always seek to offset increased risk with higher returns.

Following the surge in prices, a reduction in demand ensues, as people cannot afford to make extensive purchases at elevated prices. In other words, the market contracts, and for a diminished market, it makes little sense to expand businesses. Consequently, businesses cease to grow, leading to a halt in economic expansion, increased costs, and declining profits. Consequently, it becomes increasingly difficult to collect more taxes to replenish the state budget and provide social assistance to the poorest citizens.

In this manner, in times of high uncertainty brought about by micromanagement of the economy, investments tend to become irrational. Company owners no longer invest in the economy. Instead of investing, they strive to extract the maximum from their existing equipment, foregoing the construction of new enterprises and the modernization of existing ones.

In times of high uncertainty brought about by micromanagement of the economy, investments tend to become irrational

Consequently, the nation's industrial infrastructure becomes obsolete. An illustrative case is when VTB's Chairman, Mr. Kostin, visits the United Shipbuilding Corporation (USC) and is taken aback to find that USC's shipyards employ German machines dating back more than 90 years. Such equipment inevitably results in diminished labor productivity, subpar product quality, and an inability to manufacture innovative goods.

Is it any wonder that in 2023, Russia slipped four positions in the global innovation ranking compared to the previous year, landing in 51st place, nestled between Qatar and Chile (for context, China holds the 12th spot)? In this context, even the Academy of Sciences cannot offer a remedy, primarily due to the absence of funding for implementing scientific research and the dearth of infrastructure for production.

Additionally, effective micromanagement necessitates a high-quality bureaucracy. This bureaucracy should possess not only an understanding of government procedures and documentation but also a grasp of real economic processes within enterprises and companies. Such individuals existed in the Soviet Union, transitioning from factories to ministries. While their expertise in economics and finance may have been limited, they boasted an in-depth understanding of the inner workings of the plants where they once held positions as chief engineers or economists.

To attract such talent into governmental institutions today, competitive salaries are imperative, no less than what they can secure in the private sector. However, this gives rise to a substantial escalation in government personnel expenses. Consequently, additional taxation becomes necessary, diverting profits from businesses and impeding their growth further. Russia has already initiated this step, commencing on January 1, 2024, with a 10% tax on super-profits earned in 2022. This effectively introduced a progressive corporate profit taxation scale in Russia.

Lastly, legal and economic experts are well aware that micromanagement provides fertile ground for the proliferation of corruption. Within such a system, business figures often seek to “negotiate” with the appropriate officials, inducing these officials, through their “micromanagement,” to channel benefits in their direction and undermine the fortunes of their competitors.

Hence, the consequences of “micromanagement” in the economy typically encompass elevated costs, diminished labor productivity, inferior product quality, limited innovation, and heightened corruption. For the country's economy, this constitutes a calamity.

The consequences of “micromanagement” are, typically, elevated costs, diminished labor productivity, inferior product quality, limited innovation, and heightened corruption

Back to the USSR

Currently, micromanagement is being justified by war. We are told that the state has successfully overcome the consequences of sanctions and the shift to a wartime economy. However, the crucial detail is that this achievement owes its success not to the state, its bureaucracy, or the president but largely to the private sector in Russia. The state's role has been confined to a single action: injecting a massive sum of money into the economy, depleting the National Welfare Fund, significantly increasing the national debt, and capitalizing on high oil prices in 2022. This financial influx created the resources for a “budgetary boost” that allowed private businesses to navigate the initial months following the start of the war more smoothly, maintain well-stocked store shelves, and thereby rescue the country from the brink of a total shortage. Naturally, Vladimir Putin attributed this success to himself and his government.

In today's ideologically charged Russian environment, the slogan “Back to the USSR” has gained popularity, though it is marked by naivety. The belief behind it is that the Brezhnev era featured a modest yet stable economy guided by state planning, allowing people to “live normally.” However, the late Soviet economy was remarkably diverse. For instance, there was a relatively prosperous period for citizens in the 1970s, as a massive influx of oil and gas revenue flowed into the country, largely due to high oil prices and increased gas exports through pipelines to Europe. These revenues were so substantial that they could finance an arms race, support friendly regimes of “socialist orientation,” and still leave something for the population. Hence, the impression that “things were better under Brezhnev than under Khrushchev.” But as the '70s gave way to the '80s, the rosy picture of Brezhnev-era living standards evaporated. An era of stagnation, declining quality of life, and bare store shelves took its place. Consequently, people welcomed Gorbachev and his notions of “perestroika” and “accelerated economic growth.”

Hopes of implementing a planned economy in modern Russia are unrealistic, as it's simply unattainable. Some individuals, particularly those affiliated with Moscow State University, present fantastical scenarios involving the installation of supercomputers capable of comprehensive calculations, purportedly paving the way for a computerized planned economy that would usher in happiness and prosperity. However, they conveniently omit the fact that achieving this would necessitate the initial abolition of private property and the comprehensive re-nationalization of all private businesses, mirroring the actions of the Bolsheviks.

Hopes of implementing a planned economy in modern Russia are unrealistic, as it's simply unattainable

When government orders become mandatory for private businesses, it essentially transforms them into simulations of true private enterprise. This prompts a host of questions: who will oversee the planning process? How will it be executed? And how swiftly will we find ourselves queuing for essential staples like bread, meat, sausages, and sour cream once more? The answer is that, in all likelihood, it will happen with alarming swiftness.

Certainly, for specific durable goods, it might be feasible to construct some form of planned system to balance supply and demand. This could involve gathering orders through local labor union committees at factories. However, attempting to implement this across a vast and varied spectrum of products, especially given the shifting demands of consumers, is a near-impossible task, even for the most advanced supercomputer. By the time the necessary data is collected, circumstances will have evolved. Consequently, to simplify the process, you'd need to restrict the product range significantly. For instance, the country might only produce two brands of televisions, three brands of refrigerators, and four brands of automobiles, echoing the approach of the former Soviet Union. Everything else would be off the production line. In this scenario, everyone joins a waiting list, submits applications for these limited offerings, and waits for their turn to obtain a purchase voucher, a process that can easily take a decade. Welcome to the brave new world of planned economy!

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