CIA HISTORICAL REVIEW PROGRAM RELEASE AS9
Gorbachev's Economic Programs: The Challenges Ahead
National Intelligence Estimate
This National Intelligence Estimate represents the views of the Director of Central Intelligence with the advice and assistance ofthe US Intelligence Community.
Director of
Central
Intelligence
8
Gorbachev's Economic Programs: The Challenges Ahead
Information available as of8 was used in ihe prcparaiion of ihis National Intelligence Estimate.
The following intelligence organizations participatedllie preparation of Mrs Estimate:
The Central Inielligence Agency
The Delense Intelligence Agency
The National Sacunty Agency
Tho Bureau of Intelligence and Research.
Department of State
The Office of Intelligence Support,
Department of the Treasury
e'SO participating:
Tlie Office of thc Deputy Chief of Staff
lor Intelligence. Department of the Army
The Office ol lhe Director of Naval
Intelligence. Department of the Navy
The Office of the Assistant Cruet ol Stall,
intelligence, Depanmoni of ihe Air Force
Tne Office of the Deputy Assistant Secrelary for
iniefligencc. Department ol Energy
eclor o* Intelligence. Headquarters. Manne Corps
Ibis Estimate was approved for publication by the Nauo'iol foreign InteHigcnco Board
ft
Key Judgments
Wc believe lhal Gorbachev's efforts at reviving the Soviel economy will produce no substantial improvement over the next five years, although his cflorls to raise consumer welfare could achieve some modes! results. Soviet attempts to raise technology levels will not narrow the gap with the West in most sectors during Ihc remainder of this cenlury.'
Gorbachev's economic program has so far failed consumers, who,to anecdotal evidence, probably feel somewhat worse off now lhan they did when Gorbachev assumed powero improve consumer welfare, Gorbachev has begun lo place more emphasis on housing, food processing, and light industry; and the defense industry is being told to increase its production for consumers. Gorbachev has also sought lo expand the private and cooperative sectors through long-term leasingin both agriculture and industry. These initiatives, are ihc ones that are most likely lo improve the quality of life in the Soviet Union over Ihe next five years.
Gorbachev's effort to reform tbc country's system of planning and management and to improve the country's capital stock it going poorly. Ill-defined reform legislation, interference by ministries, and piecemeal implementation are creating disruptions and preventing progress. Reforms already planned in lhe state sector will probably be implemented slowly. Sharp movesarket economy would be very disruptive and would jeopardize popular suppori for his programs. Nevertheless, Gorbachev has often dealt wiih setbacks by adopting radical measures, and wc cannot rule oul an effort to move rapidlyarket economy in thc slate sector.
To promote growth of private enterprise. Moscow musl allow more flexibility and reliance on thc market for leasing and cooperativein order to increase significantly Ihe production of goods and services foresentful public and skeptical bureaucracy will make this difficult. Lease contracting in agriculture will remain bound by centrally directed procurement targets, reliance on stale supplies, and a
' The Director. Defense larettitente Ateacy. behcel thai ran unrvr* eerfoemmeee rouU includela ihe Sontu' econcme ate lechmeel bete lo/eaUioie ful/tllmeei ofmiliiary eeav^eeeemtt Moreorer. live ikei Irae1 ia ie*etel key eefen.itihey thoildbe ablf toeinrmtanng leekeememyeeic
ret-
rm
recalcitrant bureaucracy. The comparatively high prices of privately supplied goods will spur inflation. An added problem for Moscow is lhat these reforms probably will be most successful, at least initially, in non-Russian areas such as lhe Baltic states and the Caucasus.
Wc do notarge, sustained increase in Soviet imports from the West. The Soviets may increase borrowing to4 billion net per year over the next few years.uch larger surge in borrowing from the West, which we think is unlikely, would not aid the overall economy substantially or ameliorate lhe resource competition between thc military and civilianew industries may benefit, however.
Wc judge Gorbachev will divert additional resources from defense-including managers, equipment designers, investment funds, and plant capacily -to his civilian programs. While wc recognize there is some redundant defense plant capacily. significant increases in the production of goods for the civilian sector wouldiversion of resources from the military. Diversion from defense to civilian objectives will escalate conflicts over resource allocation because it could delay upgrades to weapons plants, (hereby postponing the introduction of new systems. Clearly there are strong economic pressures for major reductions in miliiary spending. Sinking the right balance will involve many leadership argumcms and decisions over the enlire period of this Estimate. In any case, the large-scale modernization of Soviet defense industries inas already put in place most or lhc equipment needed to produce weapon systems scheduled for deployment through the
Moscow will press harder on Eastern Europe for more and higher quality machinery and consumer goods, for grcaier participator! in joinl projects, and for grcaier conlributions to Warsaw Pact defense. Such demands will produce only marginal benefits for the USSR because of real economic constraint in Eastern Europe and (he reluctance of its regimes to increase iheir help to thc Soviets.
There is some chance that Gorbachev's economic programs mav not survive. Disruptions, such as widespread reform-related work stoppagesrastic drop in performance indicators, might strcngihen conservative opposition. Such trends, coupled with continuing nationality turmoil, could force the leadershipajor retreat.
' Tie Director. Oeletse Intelligence Agency, holds an alternativethai aberesource allocation "ode offs lhat can be
made without sipiificamly disrupting current defense procurement, and those al thein defense spendingretuh in lfordering or
tttetrliing oui nf weapons pencuremem.
Given (he severity of Soviet economic problems. Gorbachev needs thc many benefitsionconfrontalional international environment. This gives the United States and its allies considerable leverage in bargaining with thc Sovicls over thc terms of thai environment on some security issues such as regional conflicts and arms control and on some internal matters such as human rights and information exchange. Thc margins of this leverage will be set by Moscow's determination not lo let the West afTect the fundamental nature of the Soviel system or its superpower status.'
'nci discussion of theseeeei Policy Owing thr Next Phase ofArmi Conlrol In Europe,S, Soviet forces end Capabilities for Strategic Nuclear Conflict Through lheVolume /J.ad ibe forlbcomiat EstimatesU-8S. Trends andn Warsaw Foci Theater Forres and, and NIEoviel Strategy Toward ihe Wen: The tioebachev Challenge.
Contents
Judgments
1 . _ .
ia
/ISCU jblOfl
The Need for Change
1
Bold Action Plan
the Political Track
Progress
Economic Strategy
for the West
Arms Control
Eastern Europe nnd Sovist Clicr: State.
Commercial Relations
Western Leverage
A. The "Kosyoin Reform"
B. The Budget Deficit
C. Soviet Economic Reform: Signsadical Economic Shift
D. Update on Joint Ventures
Discussion'
Need for Change
A simple growthincreasing inputs of labor andin rapid economic gains for thc Soviet Union in the postwar era. This postwar system placed heavy stress on quantity rather than quality. Because there was an abundance of low-cost, readily available resources, there was little concern for efficiency and productivity. As the USSR moved out ofthe reconstruction phase in, this growth formula became less effective. Labor supply growth slowed, ever larger expenditures were required lo exploit natural resources, and the inefficiencies inherent in central planning became more acute as thc economy grew.
Military spending also has increasingly hinderedperformance. To support thc miliiaiy effort. Moscow created an institutional mechanism reaching from the highest state bodies down through layers of administrative control to individual enterprises, thus ensuring priority lo defense programs.esult of ihis priority, the defense sector's share of national output grew and by lheonsumedoercent of GNP. The incentivebonuses,designed to favor those who worked in or supported the defense industry. The defense sector was given priority access to rawmachinery and equipment, subcomponents,engineers, and skilled workers, preemptingand investment in the civilian sector. Thc
General Seeretaryfforu at reformme ihc pAHxil and economic fabr* of the Soviel Union have been underfor mote lhan three yctrs. Th* Etmiulc rcnewi ibe progress of hit eeiMiMMe uittccy. ideniifies the conflleuii approach, and attcuci Ihe ouilook lor reformihe nexlyean. The Sovielrl inyoimk proem whoa OuKOmc cannot be priHlrttcd wiih confidence There will coniinoc io be mijor alieianom injit* pl.n.onwrvnive reactionhe mail! unkathed by ihc currentotsiblehal ihe Wy fabric af Soviet ideoloe, .ndeme Quciimnet) more than at any tunc since (he renstntion. and in ihe Snuei Union ttxiea central contcntss thai rciieiiniK to thehwhenhe.rnoi len.ible
Soviet defense industry became the mosiadvanced and most effective sector of theThis effectiveness was due primarily to the priority that created the Institutional mechanism rather than greater efficiency. The defense industry has been at least as inefficient and wasteful as the civilian sector.
esult of these factors. GNP growth slowed from rates that were closing the economic andal gaps with thc developed West during"ange inhat allowed little expansion of per capita output and stymied progress in narrowing the technology gap. The large and slill growing burden of defense coupled with increasing demands for investment io areas such as energy and agriculture allowed no room for major increases in thc quanlity and quality of consumer goods and services.
Brezhnev's successors, then, were saddled with:
antiquated industrial baseefense sector that was siphoning off high-quality resourcesfor economic improvemcni.
An energy sccior beset by rapidly rising production costs of oil, its major fuel.
Levels of lechnology that, for most areas,lagged those of the West.
Inefficiencies inherent in the conflict between ever more central planning and control and anlarge and complex economy.
An inefficient farm sector that, despiie largesiill employedercent of thc Soviet labor force compared withercent in the Uniled
States.
- eiocrot..
Figure |
USSR: Ijt* Urine Standards
ercentage
of US
2 4 4 I 10 12 14
p
cuaurManag
hidebound, corrupt bureaucricy and inflexible planniriE system (hat Tailed Io provide thc proper signal* for production and investment, retarded scienlific-technical innovation, and encouraged high costs and massive waste of resource*.
A Bold Action Plan
Gorbachev recognized the "pre-crisis" urgency of Ihese problems andead ttraiccy to deal with ihem Me grouped his efforts lo revive (he economy under the broad rubric oferm lhat includes ihree major economic elements-lighter economic discipline, industrial modernizoilon, and economic reform The goal of Ihese actions, we believe, is to develop an economic environmentof:
At leasi containing, if not niirowing. tbe growing gaps in lechnology and economic performance with (he Wcsi. (hereby also enabling. Moscow lous military compciiiivcness
Achieving major improvements in consumer welfare to gain the cooperaiion and support of (be masses for peresiroyka andaintain regime legitimacy. Gorbachev and other Soviet leaders recognize (hat reaching these economic goats will take years,decades, and that progress toward them could be grcaily facilitaledore nonconfronUlionalenvironment Gorbachevs efforts in arms control, bis political initiatives, and (he campaignefurbish the USSR's image arc intended lo achieve such an environment
f
When Gorbachev first assumed office, heon emending and iniensifying Andropov'scampaign. His "human factors"discipline, temperance, and improved workintendedaise labor productivity andacrcase economic growth for ibe first two or three years ofive-Year Plan while industry retooled He also removed many inept and corrupt managers and officials and attempted lo rationalize
mm*
t.
3
USSR: Per Capita Consumption in Global5
Uncbivficd
the organizational structure of the bureaucracy by trimming slots and rearranging and combining
Gorbachev argued thai industrial modernization was ihc key to long-lasting improvement of the USSR's economic situation. His program was aimed at thc massive introduction of new machinery and the rapid retirement of old equipment. This depended heavily on major improvements in the machine-building and metalworking sector that manufactures producer and consumer durables and military hardware. (See inset. "Machine Building--The Focus of Gorbachev'sPlans.")
Gorbachev's boldesi proposals were focused onreform of planning and management. Thesein thc Basic Provisions forRcoigamring Economic Management. Ihc
Law on the State Enterprise,pproved ai the Central Committee plenum inhis set of documents, together with decrees adopted over the last three years that expanded thc _ role of Ihe private sector,esign for the lM most comprehensive reform of economic management in thc Soviet Union since the introduction of Stalinist central planning in the. The plan goes well beyond the "Kosygin" reforms adoptedS (seehe reform package is scheduled to be "almost fully" in place by Ihe beginning offirst year ofh Five-Yearmajor parts of the package are already in effect. (See tbe table on
Clearing the Political Track
Gorbachev also proposed reforms ofthe political system in part because of the ability ofthe entrenched state and party bureaucracies to defeat past efforts at economic reform. He aims to decentralize thc political system to circumveni thc resistance to reform at the top and middle levels of thethat have forced him to compromise and slowof his programs. The reforms place moreauthority at the local level in hopes of making the system more responsive to local economic signals than to administrative dictates from thc top. His program for "democratization" is designed toore pariicipatory politicallocal officials to take initiative to resolve problems and giving thcreater say in decisions.
At Gorbachev's initiative, measures were approved by Ihe national parly conference in8 lo reduce the size or ihc parly apparatus, force local party chiefs io stand for election as head of the regional sovtcts, and give the Soviets new authority. These measures aim ai diminishing the ability of local parly chiefs to block controversial reforms and sensitizing localto popular sentiment on such economic issues as more and betler food and consumer goods.element of poliiical reform in ilie broadest
t.
Focus af Gorbachev-Modernization Plant
Gorbachev has argued that the key to long-lasting improvement afthe USSR's economic situation is Ihe continuous introduction of increasinglymachinery and equipment. Theprogram, therefore, depends heavily onin machine building and metal-working -the secior that produces Ihese producer durables, as well as consumer durables andhardware. The ambitious targets oflan reflect the sector's importance;
is to increase byercent during the.
Targets for high-technology equipment are even higher. Planned growth rales are especially high for numerically controlled machine55nd processing0 percent).
Quality and technological levels are to improve dramatically.5 toercent of the most important types of machinery output will be up to "world technical levels,"compared with IS toercent for civilian machineryew machinery Is io be at leastercent more productive and reliable than previously produced equipment.
New machinery is to be introduced more quickly than in3 percent of machine-building output is lo be in its first year of production, upercent
0 percent of ihe sector's ownts- to beis. brought on line during the preceding five years. To reach this goal, investment in civil machine-building ministries is
io rise byercent. Meanwhile, therale for old capital goods is to doublehile the withdrawal rate for machinery is to quadruple.
Machine building's struggle to meet these goats was hindered, in part, by the quality control program and new financial
Production of numerically controlled machine tools showed no growthnd production of industrial robots declined.
While newly introduced machines representercent of output, the Soviets admiteneral lack of progress in meeting "world standards."
The pace of both investment and machinery' retirements has slowed markedly from the plan guidelines.
Though machine builders will not reachh Five-Vear Plan targets, the leadership has taken steps to revitalize modernizaiion by refocusing resources on priority areas including machinery for consumers, the food program, transportation, and construction. At the same lime, the plan calls for an intensification of the development oftool building, instrument building,and electricalsame industries targeted for preferential development tn the!2th Ftve-Year Plan goals.
ft--
Soviet Economiclat us Report
Goal,
ulf-financing
too percent of industry and economiclo com* tbeartecoVcr of nonpro Investment will bcfiajncoJ uctioa sphere tosinte Icei ihrc-ogh budgei1 .principles.lions and mote through
percent of volt output in the oca
*
aad localLatvia. LHtiuaiiia,
local aelfhave grcaierBdofussb. Me-scow City,
fcrmiBgi bud*ASSR. and Svetd-
geu, and will beewia* ObUnalance revenues andRevenues Bill be formed from tax* levied 00
enterpnvei withinii,r
All enterprise! Siaie orden an to make up an estimatederceni of iodusirial production
or locate to fund social/ ceo-vornic development.
Planning
Er.tf rpiiiei willoirion of iheir out pot in compliance -ilh mandatory stale olden and will be giv-tn greater latitude In(he remainder.
5-rr-o
ercent
networks'
.s-
Cniire wage and salaryiruciuicin ihe piodpct-oncrbau3td. bur increases are dependent upon enterprne's abilityinance Ihem and ate lied to increases in labor prodoc-rion.
goods and supplies for Kate of tou! industrial prcoue-ordert will continue lo be lion;0 SS percent of rationed by the slate Oibcr sales through upplies -ill be disiribatcdholesale irade syitent lhal will allow free purchaseale underami tacts between pro-nderi and usees.
W
No announced8 goal waso JO percent of Ihe -or* forte. (May not be expanded because ofthat wages are bone increased more Ihan in-creases in labor prcduc* .ivlly.)
i introduced.
Stale orders nudeercent of induiiriat production
ercentntlvtirlal prod-ctlon or> craicd under wholesale
tilde.
No information.
Exparoion to un-named region!.
Stile orders arc lo "eventually" drop 10
0erceni of total production.
Wholesale Iradc re-fotm to cover more thanercent or sales through state supply networks*
ndustrialy cod
mt* % ^
rali ics bank rJeei-
-Uonmaking someahot and elevates the role ofcriteriaredit
of banking practice ih tough new ban ingke-ifenvn.
decentralira- .After price reforms rioo. Some Reiibiliiy in are implemented, reg .Hinting leading rates. Assumed role of liquidators in cases of
it tile
Allows wheeled eMctp-rcangage diiecily In foreign trade and keep portion of foreign currency earned
footnote appeal al end ofubte
Was to beercent of No date given all importsf alleiporis (Im-plfiiie station be hi rid schedule. I
Sovicl Economictatus Report (continued)
Ma)oe Purrx<fcs
Pfirti
Will be rented to belief re-Peel resource scarcityllomcr demandi and will be based on contract).
RciaU price Wille more fleubte and moic roily reflective of supply and demand,reuilbrtctn tosher prices for food.and con in met
Implenvmied
testa caly after full paUkdacuiBOii and1 (bcslnnlne of Ulh Five-Year Plan).
NoirnplemcDUdJ
Noi schedulede Im.itcmenlcc
ion.andcomitvuru-alicosorn truer ion
. r i!y I
hole economy,including retail
Thu coal wai moved up9hc9 (oil -j*O percent of ulet through staleopertiint on -lioleiale trade
" Thli coalreduced.he*as foro*crercent ol uh> through kmc Mirpiyr*s
-encourages ihe criticalofhisiory and lhc Stalinist system's ideological foundaiions and provew sci of prccepls thai support thc devolution of economic and polilical(Sec inset. "Challenging Acccplcd Norms.")
Slow Progress
Implcmeniation of Gorbachev's program is offocky start. This ise of his altcmpts to reform thc system or planning and management. Ministries have not clearly apprised enterpriseof iheir new tasks and responsibilities. Detailed instructions have not been issued, nor have chains of command in new organizations been delineatedEnterprise managers remain rclnciant to lake risks and to focus on uuality and innovation becauseremains to meet Quantitative rargeis set in thc cxirerncly ambitious original five-year plan.
Loopholes in ihc reformresult of compromise between those whoadical deceniralization of economic decisionose whoore traditional, cautiousallowed lhc minisirics and the planning bureaucracy to resist change and have postponed the advent of market forces:
* For example, although obligatory plan targetsan enterprise's entire range of output have been replacedystem of "nonbinding" conirol figures and mandatory stale orders, during thc first year of implcmeniation. slate orders levied by Gos-plan and the minisirics often look all of anoutput. In an effort lo solve this problem, minisirics are prohibited from issuing slate ordersnd Oosplan is instructed io reduce state orders by one-half to iwoihirds.
Challenging Accepted Norms
Initiatives lo make enterprises moreindependent would inevitablyin the bankruptcy of inefficient firms
Waze reform would tie rewards more closely to individual production results and would give greater rewards toand skilled workers.
Conflicts
This creates major uncertainties foe workers, who face unemployment and/or retraining, and foe the manager, a
member of the privileged elite, who has typically spent his
entire career at the same plant.
This eliminates wage leveling and creates pressures to fire redundant workers, thus conflicting with the social
price reform would reduce govern-mem subsidies and bring supply andmore into line.
ii'holesale price reform would allow prices to reflect changes in resourceand consumer demand.
Expansion of ihe private sector to increase the availability of consumer goods and services would unleash private initiative.
Workplace democratization would allow Ihe workers to elect their managers and workers councils, givingreater stake in lhe collectives success.
The cooperative movement in agriculture would give theersonal interest in using the land more efficiently byhim to contract wiih the farm and to pocket the profits.
While needed ultimately for long-term reform. It would weaken lhe safety net that gives the poorest segment ofthe
population assured access to necessities such as food.
housing, and health care.
It would allow the market more influence over Soviet economic activity, increasing the potential for Its reputedunemployment, "unearned"profits, and cyclical fluctuations.
It encourages qualities previously eschewed in lhe making of the "new Sovietcompetition, and
it chips away at slate ownership af the means of production.
Democratization violates the Isntn-ordained principle of one-man plant management and gives thereater potential to challenge the role of iht pany in the economy.
ll appears lo be at variance with the ratson d'etre forsubmergence of tht individual to the groupechanism to transfer dividends fromto other sectors.
Under ihe new conditions of "self-financing,"areinance opcralinc expenses and some capital expenditures out of their own revenues and bear the full economic responsibility for IheirHowever, lhe amount of revenues they are permitted to keep and thc distribution of these resources among investment and incentive funds remain under the control of the ministries.esult, the ministries are able lo juggle theseand use the earnings of profitable enterprises to hail out thc unprofitable ones.
In the area of foreignsuee-by stage" convertibility of Ihe ruble ts planned, suiting with tbe currencies of tbe countries belonging lo tbc Council for Mutual Economic Assistance Enterprises also are being given broader rights to keep pan of lhe foreign exchange earned from exports. However. Ihey still need approval lo panicipaie directly in foicignactivity, and Soviet cconomisis admit that currency convertibility, even with the currencies ofiope, is fai off.
Finally, implcmcniaiion of Gorbachevs program is slow becauseortion of the economy has chanted to the new system, and crucial elements of the reform package ate not scheduled for fulluntil thc beginning of the Ulh Five-Year Planholesale and retail price reform is essential to make other reforms work, such as self-Snancing and making the ruble more convertible into both domestic goods and foreign currencies at realrsiic rates. Yet. wholesale price reform in ihc slate sector will not be completed1 and is likely to consul of administrative revisions ra: her than chanies ia lhe way prices are daermined. Reiatl price reform has been postponed indefinitely because ibe regime fears that ii will conodc the support of the populace for perestroyka. Substantial new flexibility in selling prices, as reformers originally intended, is noi likely because thc Sovieis have seen that granting limited entciprise rights io set prices has been inflationary under monopolisiic conditions. (See inset, "llackliack-ing on Kcfoim "|
The modernization program has also been lagging and seems to beeduced levd of attention.7 there was no increase in ihe output of machinery for tlie civilian iccior. and ihe resulting shortfalls in
Backtracking on Reform
Some economic reforms, particularly those that would negatively affect the consumer, have beta delayed or modified:
Retail price reform, which was to1 along with wholesale price reform, has been pushed into the Indefiniten reform economists are expressing skepticism about its wisdom.
Consumer goods remain tied to state orders In order to ensure that unprofitable goods will be produced; state Orders have been reduced substantially in other sectors.
A new set of price regulations on goods and services produced in the cooperative sector are in response to public complaints of price gouging.
Decisions on wage increases, which were lo be ihe preserve of the enterprise, now areby Gosbank in order to ensure thai they do not exceed productivity gains and add to inflationary pressures.
Wholesale price reform that will bebeginning0 is not the reform of the price mechanism itself as envisioned in the original reform decree, but another revision Ihat will periodically need adjusting.
oquipmeni for investment caused problemsindustry and thc rest of the economy. Thc high targets lhal machine builders were tasked to achieve were ovc/whelming. particularly in light of lhe fact Ihai ihey were being forced to do everything at once, iciool. incieasc quality, conserve resources, change thc product mix. and accelerate production. Despiie some performance improvementhc program remains well below target.
frt*.
Flgure 4
USSR: iLconoinie Performance Under Gorbachev and Hii Predecessors
Average aratwal perm*rata
ttm onp
1,
ata are
economic program has so far failed consumers. Economic performanceas about the same aa inmost stagnant Brezhnev years when per capita income did not grow. The effects of Ihis poorwith reduced imports of consumer goods and tbcihat Soviet consumers probably felt somewhat worse or! al Ihe end7 than ihey did in5 when Gorbachev assumed thc post of General Secretary. The Soviet consumer scene is Slill marked by lengthy queues, rationing of some goods, pervasive black-market activity, and shortages of basic necessities, especially food.
Altering Economic Strategy
because of these mounting problems, Gorbachev has begun io alter his strategy in an attempt to revitalize his economic program and prepare for the planning decisions for the neat five-year. The potential problems from disgruntled consumers forced Gorbachev to alter his investment strategy to place more emphasis on housing, food processing, and light industry and to restrict growth in some other sectors The Sovieis have directed lhe machine-buildingto give priority lo sectors that directly serve ihc consumer
tiooioi
5
USSR: Average Annual Growth of Per CapitaS7
Percent 6
industry because those initiatives hold ihe bestfor producing considerable improvements in thc Quality of life over (hc next five years. Legislation thai would haverohibitive tax structure oo cooperatives was remanded in July by the Supreme Soviet in an unprecedented move.
5 7
tin
Thc defense industry is also being totd to assume responsibilityreater share of consumer-related production:
Premier Ryihkov directed the defense industry to increase deliveries of equipment to thesector.
Thc Ministry of Machine Building for Ught and Foods Industryouschold Appliance* wasand most plants resubordinated to theindustry.
9 plan calls on tbc defense industry to improve (he quality and increase production of consumer goods and capital equipment forindustries.
The Minister of Medium Machine Building (the most secretive defense industrial ministiylan-nounccd plans to increase sharply the output af equipment for lbc dairy industry.
Gorbachev is increasingly concentrating on expanding thc private and cooperative scciors and offering long-term leasing arrangements in both agriculture and
Outlook
believe ihat Gorbachev't efforts at reforming thc economy, fostering capital renewal, and motivating labor and management will produce no substantia! improvement in tbe Soviet economy over thc next fiveis efforts to devote increasing resources and attention to improving consumer welfare, however, could achieve some modest results. Still, we believe Gorbachev will be disappointed with lhe overallSqueezing investment growth in noocon-sumer sectors, including heavy' industry, wulize prospects for meeting vital production targets. This same strategy resulted in serious bottlenecksubstantial slippage in industrial growth during the. Plans to increase investment in light industry and to buy Western manufacturingface long-drawn-out retooling and installation processes. Gorbachevs failure io deal with lhelarge budget deficit will intensify inflationary pressures. (See
Soviet attempts io incorporate new technologies andoie productive labor force will not be enough lo narrow lhe technology gap in most scciors with the West during ihc remainder of this cenlury. More important, gains ia particular areas will not be setf-perpetuatiag as long as incentives for dynamic technological change remain weak. The Soviets haveariety of measures io spur innovation and ihe introduction of new technologies, including: (I) raising prices for innovativeorming associationsather research, development, and producllon responsibilities under one roof: U) making
1 Tke Annrite,al iaVireriw'ice tomU imdadei tke
tmem of
laiurr -vlurr,w*i(
Mgurc 6
Moscow: Collective Farm Market Prices of Scleeled Goods "
fliMn pre kilvyram See tcale chanrei
ShJk Hare (uttr
Dji. air ror pwrrliaws nude in Moscow in Angus* or September ol each yea/.
more availableesult of rfasnost.ncouraging joint ventures and technicalwith the more advanced countries.systemic obstacleshat discourage the introduction and dispersion of new technologies at industrialcccni reforms aim at creating conditions and incentives for greater "technology pull" from below and expanding the autonomy of research and production collectives, but we believe these first faltering steps will not produce substantial results during the period covered by this Estimate. Acquisition of technology aimed toward miliury uses will not provide advances in Soviet industrialcornerstone of Soviet modernization. On the other hand, the new proposed forms of cooperative sharing of technology and managerial techniques wiih
Tke OuetiortlUgtmct Agemty. believe!pw ike Smeii ml-ead, lead ey left rrb-rrlorirt. ikty tka-ld keakleu, emmiimm, aiumttaniwr letknefotyIm ih,i
Ihe West, particularly joint ventures, could allow for easier transfer of technology than has been the case with iradiiional purchases of machinery and'
There may be some economic benefits from tbe reform program that will help to prevent further deterioration in the planned economy. For example, financial pressures on enterprises should help reduce redundant labor and some waste of materials. On balance, however, we believe that such benefits will be slow in coming and that ihey will be outweighed by disruplions resulting from ihc conflicting andsignals lhal piecemeal implementation of the reform program will continue to create.
We see no evidence that Gorbachev currently intends lo impose more radical reform in ihe statetrategy (hat would include:
Disengaging enterprises completely from ministerial control and allowing them lo respond to economic levers.
Providing much belter price and profit signals by allowing prices to fluctuate in response to supply and demand.
norc competitive environment byup tbe present huge production ccngkr-merates and permitting competition from abroad.
financial and capital markets. Such movesarket economy at this time would be even more disruptive to the plannedthan piecemeal implementation and in particular would jeopardize Gorbachev's campaign to winsupport for his programs. We believe it most likely that reforms for the state secior will continue to be implemented slowly.mall number offirms will be shut down, and price reform will entail the periodic revision of prices ratherhange in the basic pricing mechanism to allow more rVsubility. Nevertheless. Gorbachev has often reacted to setbacks by proposing increasingly radicaland we cannot rule out an effort to move rapidlyarket economy in tbe state sector. (See
We believe Gorbachev will continue lo push forward on thc moves already begun to expand privateby paving the way for growth in the private and cooperative sectors and by allowing long-lermleases For such reforms to work, however, Moscow must allow more flexibility and reliance on thc market. We believe progress in this area will be difficuliesentful public and skeptical local authorities are likelyontinue retarding the devel-oprnent of tbe private sector furthermore, the lease coni ratline system in agriculture will probablybound by centrally directed procurement targets and stale supplies of inputs as wellecalcitrant bureaucracy. Goods supplied by lhc private sector will be cosily, raising concerns over inflation. An added problem for Moscow is lhal these reforms probably will be moo! successful, al leaf) initially, in non-Russian areas such as lhe Dalltc nates and lhc
Wc believe there will be escalating conflicts over resources as (be industrial modernization program falb shori. consumers continue to clamor for tangible rewards, and (he military perceives no reduction in its needs In the rejr term, ths resource allocation debate will be sharpest on investment Tbe present five-year plan has no slack that would permit greaterin priority sectors withoul offscltingin other areas. The regime continues lo balance tlte books on thc investment program by assuming large gains in productivity in key areas such as machine building, agriculture, industrial materials, and construction. Yet. in his three-plus years in power, Gorbachev has not made any progress in reversing the long-term decline in productivity
esult, the leadership wiU have to Up resources outs-de the civilian rrtacfc;aery-produc*.iofl sector to continue the high investment strategy needed tothe USSR's capital stock and improve produclivi-ty over the lone term.arge claimant on some of the economy's most valuable and productivethe defense industry is the prime, bul not Ihc only, candidate lhat will be tasked lo supportindustrial modernization drive. The defense industry already produces civilian inveslment foods and is the main source of some hirh-techrwlogy machinery and equipment such as robots, computers, and advanced machine tools both for its own use and for the civilian ecorvomy
The defense industry has been given additions!lo support the civilian secior and has been told that iltcse civil projects must be given priority, even at Ihe expense of some defense activities. We judge (lorbachev will divert additional resources from defense -including managers, equipment designers, investment funds, and planthis civilian programs The unilateral force reductions recently announced by Gorbachev could pave lhc way for culbacki ib weapons recea-rement in the near term, which will release defense industry resources for Gorbachev's civil economic agenda. While wethere is some redundant defense plant capacity, significant increases in the production of goods for the
riM-
Figure 7
felimatcd Distribution of Soviet GNP by End Use
Oihcf governmtni
'Admin inon. oihci services, ind civilian research and development
I
civilian sector beyond thc ihorl term wouldiversion of resources from lhe military. Someof thc miliiary have acknowledged that defense must endure some pain under peresiroyka to help the economy and, hence, its own needs down the line. Nevertheless, diversion of resources from defense to civilian objectives will escalate conflicts over resource allocation because it could delay upgrades to weapons plants, thereby postponing thc introduction of new systems Clearly there are strong economic pressures for major reductions in military spending Tbe full client of these irade-orTs will be based on an ongoing decs:cnmiking and bureaucratic process that will coniinue over tbe scope of the Esiimalc.
The Director, Defense Intelligence Agency, bolds lhc viewritical distinction mutt be made in tbe discussion of resource allocation trade-olfs between tbe resource requirements for short-term objectives and those of long-range gonls. Short-term require-mcnis will rely primarily upon existing planl capacity and inputs. Thc demands Gorbachev is making on the defense sector do not require significant short-term reallocations from defense to the civilian sector or the disruption of current procurement programs. In the
loneer Iciiii, lo achieve lasting gains in productivity, significant investment resources will be requiredinvestment going to the defense industry would not be sufficient to meet tbc economy'srequirements since other sect on take far greater shares of toial investment- While slowing thc flow of investment resources into ibe defense sector may well resultownward turn in defense spending trends, the SovieU probably would maintain weapons programs that are key to forcewhile strelcbing seme lower priority programs and phasing out early some long-established weapons production runs.
The accumulating economic problems and theposed by the simultaneous pursuit of economic and political reform will raise ibe level of contention higher than il has been so far in Gorbachev's tenure.esult of these tensions and continued struggles over resource allocation, wc believe there is same risk for Gorbachev's economic program. In thc area of economic reform in particular,re form-related work stoppagesrastic drop in per for maocestrengthen conservative opposition and convert to opponents those who have been only lukewarm supporters nf reform. Suchwith the cflccu of glasnosi and continuing nationalityforce thc leadership into major retreat. If this should happen, the more orthodox elements of Gorbachev's program would survive, but Ihe reforms designed toajor decentralization of economic decision making would be shelved.
Impliea lions for ibe West On Arms Control
Gorbachev's initiatives in lhc arms control arena have been supported by development of "new thinking" in lhe formulation of national security policy. Three leading iHemes of this new policy are:
Tht economic dimension of nalional securityleaders have linked an improved economy lo ihe expansion of ihe USSR's influence, and ihey have
conlcnded thai (hc challenge posed by ihc arms race io Moscow's superpower status is as much economic as it is military. They and tbe miliiary leadership acree thai significant improvements in ihe high-technology sector of (be economy are
essential to compete with future Western weapon
systems.
The limit* of military power. Gorbachev has tried looncept of "mutual security" that attaches greater weight to political factors.
"Reasonableorbachev and hishate characterized this concept as having lhe necessary forces to deter aggression, and ibey have indicated lhal the Soviets already havepower to do so. The Pany Congressoreover, endorsed Gorbachev's call lo "restrict military power within lhe bounds ofsufficiency."
In addition to trying lo redefine Soviel national security requirements, we believe Gorbachev has moved arms control to (be forefront of lhe USSR's national security agenda in an effort to dampen both external and interna! pressures lo spend more on defense, al least until he can reap the productivity gains he hopes io achieve from his industrialptogiam With moreO Soviet Ground Forcesoviel Air Forces regiments, andoviel Air Defense Forces regimenis west of the Ural Mountuins. any type of accommodation with NATO ihat would allow the Soviets io reduce expen-dilutes on modernizing these forces has the potential to result in substantial resource savings. The Sovid leadership probably hopes that tbc process of arms conlrol negotiations will weaken NATO's resolve io modernize convenlional and tactical nuclearmaking possible cuis in Iheir own defense Spending
Thc unilaieral force reductions recently announced by Gorbachev could pave the way for cutbacks inprocurement in lhe years ahead. The amount saved will depend on the forces affected, tbcof remaining forces to give them whatdescribedclearlyrientation, thc pace ai which ihc reduced foice is modernized, and the cosh uf carrying oui these initiatives.
A plausible long-lerm method of transferringwould be lo redirect future investment from defense industries into ibe civilian sector during the next five-yearesult of thc large-scale modernization in the defense industries in, the defense sector has already in place most of thc cquipmenl it needs to produce weapon systems scheduled for deployment through the. But ihe high quality machine tools, equipment, and raw materials required to retool the defense industry to produce the next generation of weapons are the same resources needed for Gorbachev's industrial mocernuation program.
For Eastern Europe and Soviet Client States Attempts al political reform in the USSR are likely to generate pressure on East European countries for similar reforms. Moscow will also increase itson ihem for more and higher qualityand consumer goods and for greater participation in jointthose involving Ihe exploitation of Soviet natural resources. Easicountries will alto be asked to shoulder more of thc costs of the Warsaw Paci defense effort We believe these countries -which arc facing economicand arc anxious to do hard currency business with ibebe able to resist most of these demands successfully.'
As to relations with client states, we expect increased pressure from Moscow for those countries lo adopt reforms in order to reduce the burden of Soviel support. While such suppori isimited drain onorbachev apparently believes thai it is inconsisteni to continue support at past levels lo countries, such as Cuba and Vietnam, ihai arc not willing to adopt more flexible economic policies.
In Commercial He-la lions
We do noiarge, sustained increase in Soviet imports from the technologically advanced capitalist cocaines Poor Soviet export prospects mean that such an increase would have lo be financed either by a
' Far ItJiher ee;ain, Mr NIE II/IM
I9IS. Seri'i FoUir Tinretd Easier* kmope Under Goriother.
substantial runup of debt, which Soviel officialswitt avoid, or by accelerated gold sales,risk significant reduction in world goldthis regard, the situation facing Moscowifferent from the
. when the Soviets could easilyubstantial increase in their debt to thc West:
Now Moscow must contend with stable or declining oil prices and uncertainties over tbe quantity of oil available for export.
Much of the debt incurred inaslied to Western agreements to purchase Soviet raw materials- This option is currently being used more selectively.
Moreover, although the Soviets recognize thegains from increased use of Western technology and equipment, they lack Ihc confidence in the ability of thecurrentlyto absorb and ultimately lo diffusearge scale.
We cannot ruleemporary sharp increase io imports of consumer goodstopgap measure, given ihc leadership's concern over ihe lack of popular support for Gorbachev's programs. Even such an increase would only restore Soviet spending ongoods in. -oris toS levels Thc Sovicis cut back substantially on imports of consumer goods at that time in responsearge reduction in export earnings. In recent months Western banks have been negotiating credit lines wiih lhc Sovicl Union worth between J6 billionied io Semct purchases of machinery and equipment for the production of consumer goods In the past the Soviets have arranged such lines and not used them fully, and il is currently unclear lo what extent they will use these newly acquired credit lines. Unlike lhe, when credit competition among Western gov-ercrnenis worked to thc Soviets' financial as well as political advantage, thc new credit lines do not offer preferential financing, nor do Ihey otherwisebroaden lhe potential base for Sovicl borrowing.
A surge in borrowing from the West would not aid ihc Soviet economy significantly or ameliorate thecompeiilion between the miliiary and civilian
sectors. For example, even borrowing as much as Western bankersillion act annually in addition to thc roughlyillion needed per year to refinance maturingproviderop in the buckei for an economy that produce* roughly S2 trillion worth of goods and services annually. We believe tlie Soviet leadership will not undertake such borrowings for fear of tbeleverage il would give Western governments and bankers. Moreover, ihe Soviets rccogntrc thai plans for any debt buildup can go awry should Moscow unexpectedly confront lower oil prices,depreciation of thc dollar, Or two consecutive bad harvests.
We expectee an intensification of Soviet foreign economic initiatives, including increased concessions to Western firms to conclude joint-venturegreater efforts lo learn from Westerna stepced'upampaign for GATT membership, and lhe possible release of more trade and financial data lo faciliiatc improved boiiowing lerms. (Secnder these conditions Soviet hardtrade will continue lo be dominated by Western Europe and Japan. The Soviets also will push hardop priority lo improve economic relations -with thc European Community
The Soviets will continue to press for trade and possibly financial concessions from the West. This will lead lo increased pressures for the West io pare further tbc Int of COCOM-controlled tcchric4ogics. Such pressure will make il more difficult for the West tonified stance on currentorewIrade and financial flow* to tbe Soviet Bloc.
For Western Leieragc
Given lhe severity of Sovicl economic problems.needs lhe many benefits ofa nonconfronta -lional international environment. This gives (heStates and its allies considerable leverage in bargaining with the Soviets over lhe terms of lhal environment on some security issues such as regional conRicis and arms control and on some internal
mailers such as human rights and informationThc margins of this leverage will be setdetermination not to let thc West affectnature of thc Soviet system or its
'For* fuller discuwoa or these issues.leeSNlEPolity Daring ihe Next Phete of Arms Control in Europe.IEower Foeeeiend Capabilities foe Strategic Nuttear Conflict Through thend ihe foeibceimine EsimMtct NIESS, Trend! and Development! in Woeiaw poet Theater Foeeei and Ooeirlot.WD7;and NIE, Sower Strategy Toward the Wtte The Corbacker Challenge.
Annex A
The "Kosygin Reform"
outlined by Kosygin.5 reform program was io include an administrative reorganization of ihe bureaucracy, some decentralization of planning and decision makiae fuisctioris from lhe ministries lo thehange in success criteria fora revision ol wholesale prices,eform of thc industrial supply system.
In comparison,eform program is much more comprehensive and integrated, encompassing olher key elements. For example, his price reform, unlike previous efToris, is designedncompass all forms ofprocurement, andand. in theory, is iniended lo change the basic pricing mechanism.
S reforms were handicapped by majorflaws and inconsistencies. But they foundered largely because of opposition from thc government bureaucracy, which reacicd by procrastinating,complicating, and icgulaltng. Implemenia-lion of the reform also sufferedack of strong
leadership backing. Its initiator. Kosygin, became increasingly overshadowed by Brezhnev, who lacked bisommitment to reform. Tbe climateecentralization of decisionmaking became even less favorable aficr Ihe Czechoslovak "spring"hich underscored the political risks ot* reform. Consequently, lhe reform was never implemented as initially intended.
s*
Seef^t-
Annex B
The Budget Deficit
Soviel stale budget deficit has increasedduring the last three years. We calculate9 deficit will beercent of Soviet CNP. (For comparison, ihc highest US Governmcni budget deficitof US GNP in fiscal)
The inflationary pressures resulting from Moscow's fiscal policy are already visible. Growth of wages almost doubled in thc fust halfhere hasarked increase in thc prices of consumer goods sold in collective farm markets, along with higher prices and increased shortages of consumer goods in state stores. Articles in Ihe Soviet press have complained loudly aboul cnteiprises inflating Ihe prices of new machinery products. Excess purchasing power also has probably led io an expansion or the underground economy, which results in resourcefrom thc stale sector and underminesto spur stale worker productivity through higher wages and salaries.
Gorbachev's policies are panly responsible for the deficit rise:
Slate spending has risen rapidlyesult of large boosls in stale investment and increases in total stale subsidies on food and liv. ock products.
Receipts from siifTsales taxes on alcoholicarc down substanliallyesult of the regime's aniialcohol program.
Revenues from lhe large markups imposed on lbc retail prices of imported food and consumer goods have fallen sharplyesult of thc cutback in these imports starling
Proceeds from enterprise profit taxes grew slowly lasl year because of production problems due to retooling, reforms, and quality conlrol measures
Figure 8
USSR: Estimated Slate Budget
Percent of CNF
11
t
nflnn
82 81 84 8S 86 8' 8S 89
'Projected
Annex C
Soviet Economic Reform: Signsadical Economic Shift
of forward inovcrncnt toward radical,reform would include:
Less emphasis on thc fulfillmentive-Year Plan targets and the announcement ofoals.9 plan already has accepted targets for produced national income and industrial production that are lower than called for in the current five-year plan.
Strong, united commitment by the leadership not only to the general concept of economicbut also to individual elements of the reform program that arc particularly controversial, such as essential price changes or even price reform.
Willingness to carry through particularly painful adjustments such as bankruptcies that close down many enterprises and wage reforms that lead to wide differentials in pay.
Evidencearge expansion in the number of cooperatives (and employees of cooperatives) and the playing down of resentment by the general populace over egalitarian issues.
Promulgation of major new agricultural reforms that reduce thc powers of the state and collective farms.
t*
Greater consolidation of economic ministries,by cuts in slafTsnd revision of their charters to steer them away from supervising the day;today activities of economic enterprises.
Continued ability of reform economists to publish controversial articles that push the limits of reform.
MMirOt
Annex D
Update on Joint Ventures
has signedoint-venture contracts with Western firmsS. bringing the total toince legislation governing such contracts took effect inevertheless. Soviel leaders arcby the low level of investment andin most of these deals and are consideringthe program to encourage more Western participation. Such changes might spur additional contracts, but primarily from firms interested in small-scale projects
Moscow's relative success in negotiating jointis largely thc result of greater Soviet flexibility, part*culaily id easing restrictions or. the repatriation of profits, the biggest obstacle to concludingThe original legislation allowed Western firms to earn hard currency profits only by exportingproducts of the joint enterprise. Moscow is now allowing an array of options, including countcrtiade agreements in wluch the Western partners export Soviet goods to earn hard currency. In one agreement, the Soviets reportedly will alsoonsortium of six US firms to repatriate profits by pooling their hard currency earnings.
Despite the surge in agreements, the Soviet leadership is far from satisfied with thc progress of ils joint-venture program. Service and consumer-relatedrather than high-technology deals, still dominate thc list of completed contracts.
23
Original document.
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