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Where the Economy of the Soviet Union Went Wrong
Author’s note: You can watch the video below
I honestly thought this video was going to be a banger. It told an amazing, enjoyable story that flowed extremely well. I wanted to be insightful and helpful to the audience, without being ideological.
Alas this video failed to catch on with the audience. But it is what it is. I think Soviet Union content does not really strike people as being part of “Asia”. Who knows. The video about the Soviet Union landing on Venus did alright.
The thing that I really was struck with when it came to this story was the abstraction of the Soviet economy into a “business model”. The country made money early on by moving its unproductive inputs - people - from the farms into the factories. This gave it amazing growth. But over time, the country business model began to sputter as it moved into an era where everyone was in a factory and birth rates started to decline.
So what is to be done after this? And what does this mean for other countries that have started to experience the same thing? There are a few ways to go about it: The American way (immigration), and the Japanese way (capital). I’ll write more about this in the future.
If you want to help support the work, consider checking out the Asianometry Patreon. Get access to videos long before they are released. I just uploaded a new video about Singapore’s petrochemical and refining industries. Enjoyed making that one.
Recently, I watched a video by a popular YouTube channel about the economy of the Soviet Union. I have long been interested in how Soviet society worked. But sadly that particular video failed to scratch the itch. It felt a bit watered down. So I figured I would make my own.
For generations, the Soviet Union grew faster than every other developing country except one. But once that strategy ran its course, the Soviets failed to adapt and things fell apart. It is a challenge that every country has to face at one time or another in the process of its development.
In this video, I want to look at the rise and decline of the Soviet Economy.
Before we get started, I want to note. This is not a video about the breakup of the Soviet Union. The two topics are somewhat linked, but it would take another video to go through all the political observations and theory from historians.
Not to mention that the Chinese have their own theories on the matter too. It is a whole rabbit hole. This video is going to be long enough as it is, so let us just talk about money.
Before we can talk about the economy of the Soviet Union, we need to look at the economy of the country that came before it: the Russian Empire.
The Economy of the Russian Empire
In 1913, the Russian Empire was the world's biggest country and ranked third in population after China and India. But that was pretty much all that distinguished Russia from everyone else.
The country's population were mostly poor and agricultural like the rest of the world average. Their incomes were on par with the Japanese and Latin Americans. Above those living in Africa, India and China, but far behind the rest of Europe.
Then came World War I. An all-consuming total war that strained even the richest of Europe's empires. The United Kingdom spent 40% of its GDP on the war. France, 50%. And Germany, 60%.
And more than just being the biggest market buyer, governments intervened to control resources and output so that producers can guarantee supply to the war effort. This was the command economy before the command economy existed.
The war devastated the Russian Empire. National income fell 80% from what it had been before the war. The government had a hard time feeding its 9 million soldiers, because drafting men and horses to the front meant that they were not at their farms farming. Shortages forced the Russians to borrow foreign currency and print money so to import supplies from abroad.
When real production cannot keep up with the growing money supply, inflation happens. Inflation rose to 6% a month from 1916 to 1917.
That sounds bad. And it was. But truth of the matter is that things sucked quite badly for everyone back then. At the time of the Bolshevik takeover in 1917, the economic situation sucked, but was not notably worse than what everyone else was going through.
The Soviet Recovery from War
The first year after the assumption of power, the Bolshevik government attempted to establish a command economy in line with their ideological goals. They confiscated surplus food supply, nationalized industry, and seized the estates of both the Church and aristocracy.
But in the second half of 1918, a group of anti-revolutionary forces, the Whites, banded together in an uprising against the government.
Various foreign countries intervened on both sides, worsening the conflict.
What followed was a brutal civil war that lasted for over 5 years and killed millions of people.
Coming so soon after World War I, the Russian Civil War annihilated infrastructure, transportation networks and industry.
Incomes fell back to levels not seen since the pre-modern era: Around $600 in today's dollars. Famine and government failure abounded.
In 1921, Lenin announced a New Economic Policy that sought to restore farmers' incentive to produce agriculture. Amongst other things it replaced the seizing of all surplus goods with a progressive tax. Lenin was essentially backing off his attempt to create a command economy.
This policy shift spurred relief. Things got off to a bumpy start. There was yet another harvest failure and a famine. But after a year, farms were producing again. Small businesses and markets were sprouting up in the countryside. The economy began to recover from the devastating effects of the Great War.
Return to Command
By 1928, Stalin had defeated his enemies on the Left and was working to establish himself as the undisputed party central. That year, he discarded Lenin's New Economic Policy and tried for the second time to establish the command economy with the first Five-Year Plan.
At this time, you could describe the Soviet Union's economy as being starved of capital (like infrastructure and industrial factories), but with plenty of labor. Stalin set into motion the defining strategy that would drive Soviet growth for a generation: Heavy capital investment to build up capital.
These capital investments would go into the production of producing goods: Machinery, factories, power stations, railways and other items of heavy industry. Things that helped make other things.
These goods helped produce more steel, electricity and machinery which were reinvested into yet even more steel, electricity and machinery. A feedback loop!
Another major reason that the Soviet Union tried again to institute the command economy was that it was heavily militarized. The Soviets faced hostility from foreign nations from the very beginning of its existence. The Allied nations actively intervened in the Russian Civil War on the side of the White Army. The Soviets did not trust the West and that pushed their economy in a certain direction.
The Soviet military's outsized influence in the Soviet Union will have significant consequences. It forced the Soviet economy to build tanks, guns, aircraft, explosives, and other items of militarized heavy industry.
This "permanent war economy" threw a veil of state secrecy over economic central planning and prevented open, transparent discussion. And like a guy who only lifts with his right arm, it sucked away resources from the rest of the economy.
Stalin's drive pushed the investment rate from 8% in 1928 to 20% in the mid-1930s. Massive government investment became a cornerstone of the country’s economy. The whole country was oriented towards this goal. The productivity of this investment varies.
Some genuinely helped but there was a lot of wasteful, unproductive, and impractical infrastructure built. Building the biggest dams in the world for the sake of economic output while the people go hungry due to a lack of food production has questionable value.
The Impact of Collectivization
One major event throughout this time period was collectivization, the replacement of individual peasant farms with collective ones. Peasants lost their land, grain, and livestock.
Those who resisted were exiled or executed. Famines broke out in Ukraine, Kazakhstan, and Siberia. It sucked. The significant human impact and loss demands that we at least briefly mention it here.
Collectivization and the famines that resulted from it cost the lives of millions, yet I would argue had little impact on the Soviet Union's economic outcomes. It did spur people to migrate from the countryside into the city to take jobs in the industrial sector, fueling the investment drive. But I can’t really say that that outweighs the famines, oppression and what not.
It is more likely than not that collectivization damaged the economy's other growth engines - the ones that were actually working. That’s the cruelty of the whole thing. My personal view is that the economy of the Soviet Union would have been better off without collectivization. After all, look at China's urbanization drive in the 90s. But both sides continue to debate the issue and it remains controversial.
But back to the numbers, as best as we might have them. From 1928 to 1970, gross national product rose in excess of 5% a year. A big portion of this can be attributed to the accumulation of capital - the most critical growth engine. But agriculture and overall productivity rose too.
Out of all the countries' in its starting peer-group, only Japan would grow faster and get richer than the Soviet Union.
The Beginning of the End
World War II and the years that followed would see the peak of the heavy industrial "producer goods" production cycle. But as the country moved into the 1960s, the government sought to reorient the economy towards the production of consumer goods.
Nikita Khrushchev declared in 1956:
Now that we possess a powerful heavy industry developed in every respect, we are in the position to promote rapidly the production of both the means of production and consumer goods
The Soviet high leadership knew that their right arm was way too overworked and they needed to pump with their left. That is for several reasons.
First, the engines that drove the Soviet economy for so long were starting to sputter. When Stalin began his drive, there was substantial unemployment in the agricultural sector. A shortage of capital and a surplus of labor.
Simply by moving those unemployed people (and later, women) into the industrial workforce, they became more productive and the economy grew.
But some time in the 1950s, that agricultural unemployment situation ended. All the laborers had been moved out of the farms into the factories. And virtually all the women had been moved into the workforce - 51% of the Soviet workforce in 1973 were women.
The old heavy industry growth model stopped working and the Soviet Union realized that they had little to replace it to drive future growth. Except one thing but we will get to that later.
Getting Worse Everywhere
Out in the agricultural space, the farms were now underperforming from under-investment and bad management - yields were worse than in any other European country. This had forced the Soviet Union to invest capital resources into mechanization drives and other modernizations to try and produce enough food to feed the burgeoning urban populations.
Furthermore, it is a bit ironic to say this, but the Soviet Union, the biggest country in the world, had relatively little farmable land. This is especially in comparison to the United States bread basket. The government attempted to create new fertile farmlands, but this effect was limited.
In fact, this turned out to be a huge waste. Short-term thinking to meet short term output goals. The most infamous example would be the draining of the Aral Sea, a lake shared by Kazakhstan and Uzbekistan, to grow cotton.
Once the fourth largest body of water, the sea shrank and died from inefficient irrigation, the overuse of fertilizer, and a lack of intelligent agricultural methods. The Aral Sea is today an environmental disaster.
In the industrial factories, Soviet equipment was far behind the cutting edge and getting older by the second. The Soviets were great at putting new capital equipment into the factories. They were not as good as retiring and replacing it. In 1970, 28% of all equipment was older than 10 years old. By 1980 that number would be 34%. The average piece of equipment was 8-9 years old.
There were a couple reasons for this. First was that doing so would often required a work stoppage. For plant managers, that risked the potential of missing a production quota, a difficult prospect. When they did risk it, they often tried to refurbish the existing equipment rather than starting from scratch. A major drive in the 60s to refurbish everything was a disastrous waste.
Japan would take the other path when building up their steel industry after the war: Starting over from scratch. It worked. By 1985 the country was the most efficient steel making country in the world.
The second reason why the Soviets never upgraded their equipment. Nothing more technologically advanced was made available to them. The Soviet Union employed fantastic minds and pioneered incredible sciences and technologies. I want to do a future video about their advancements in computer chips.
And they landed on Venus for Pete’s sake!
One does not simply land on the surface of Venus.
The problem was that almost all of those advancements happened within the military and government sector. That meant that it was a state secret and did not see the light of day in the civilian sector until after many years.
One of the better things about the American military-industrial complex was the technology spillover effect. New technologies and ideas come out of the government and are released to private entities who do something cool with it. GPS and the internet are famous examples.
This never happened in the Soviet Union, being an economy centered on military capacity build up. The military only tightened its grip on the economy as foreign tensions rose throughout the 1980s with Afghanistan and the rise of Reagan. It is why that a massive technological gap opened up between the US and the USSR's civilian sectors despite the USSR’s seemingly advanced science capabilities.
When Soviet urbanites wanted to buy and experience nice things (food, technology, and more), they imported it from the West. This meant they needed to get their hands on hard currency. From where it can be found?
So with the agricultural, industrial and consumption goods sectors all struggling, the government turned to the only thing that really seemed to have worked: Natural resources. The Soviet Union in its final years fell into a deep resource trap.
The Soviet Union was blessed with amazing amounts of natural resources. Massive oil and gas fields. Rich iron ore and coal mines. But by the 1970s the ore mines were aging. The government, dependent on the hard capital these exports brought to them, threw good money after bad to dig deeper and get more out of these dying mines.
In the case of the oil and gas fields, external forces delayed the reckoning a bit. In 1973, the Organization of Arab Petroleum Exporting Countries launched an oil embargo of countries believed to support Israel. Oil went from $3 to $12 a barrel.
The Soviet Union lucked out in being one of the few big oil suppliers still able to sell to the embargoed countries. They had switched to using natural gas so that they may have the opportunity to export its oil for hard currency. Soviet exports to the West grew 26% from 1970 to 1980 and a big portion of that was oil.
But by then, those oil fields were already losing their productivity. From 1975 to 1985, oil investment costs went from 28% to 39% of the total Soviet investment budget. Employment likewise soared by 25%. Yet the actual output of oil fell by 21%. This was a disaster.
Again, same as with the ore mines, the Soviet economy found itself trapped. It used the hard currency it got from selling oil to fund its imports of food and consumer goods. This was not sustainable and everyone knew it.
Yet the oil was costing so much money to get out of the ground that it sucked away resources that could have been used to improve the agricultural and domestic consumer industries.
But as long as oil prices stayed high, then the economy can limp on. If prices in fact went higher, then there might be enough savings to invest and actually escape the trap.
If oil prices crashed though, then all bets were off. Which is what exactly happened a few years later when the Saudis decided to end the embargo and return to the oil market, kicking off the 1980s oil glut.
The glut and a mini-recession together would crash the price of oil from a high of $40 in 1979 to under $10. This would spell the beginning of the end for the Soviet economy. Without sufficient foreign currency income to fund its operations, the economy essentially went bankrupt.
The 20 minute video that I watched on the Soviet economy framed it as a flawed, contradictory system that did not understand proper economic principles. I find that a bit facetious. After all, the Soviet Union survived for 75 years. What was happening when the Soviets were fighting Germany or facing down the United States in Cuba?
The reality is that the Soviet Union built up its economy on a series of well-grounded economic principles. Similar to those followed by other developing countries around the world like Japan and Taiwan. I have discussed other similar situations in my videos on economic development.
Unlike with those Asian economies, when the Soviet engine first started to sputter due to fundamental demographic issues, policy makers found themselves unable to swap out their one-trick pony and anchor against external shocks. But up until then, it really did grow quite well.
People argue that the Soviet Union should not be given credit for its economic success because it came with brutal political repression, horrible famines, and an emphasis on heavy industry without care for other parts of the economy.
Fair arguments can be made for all of these and I am very sympathetic to them. I certainly would not have wanted to born in the Soviet Union during those times. I read a book by Anne Applebaum on the Soviet takeover of Eastern Europe and East Germany, “Iron Curtain”. A depressing book with a sad outcome.
An economy is more than a sum of numbers and outputs. It’s a representation of the life and livelihood of its inhabitants. The Soviet Union had 300 million people at its peak. Its economy failed to give them the growth and livelihood that those people deserved. That failure should serve as a lesson for us all and we should study it earnestly and honestly rather than simply slapping a sticker on it and calling it a dud.