SOVIET ECONOMIC PROBLEMS

Created: 3/20/1963

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NATIONAL INTELLIGENCE ESTIMATE

Soviet Economic Problems

SOVIET ECONOMIC PROBLEMS

THE PROBLEM

To assess Soviet economic capabilities to meet the demands of major economic programs over the next few years and to estimate the future course and implications of economic policy.

CONCLUSIONS

Soviet leadership, in its across-the-boardthe US world position, has in recent years taken onthan ever in the fields of general economicarmaments, space achievements, living standards,aid. The Soviet economy is very large and is stilla substantial rate, but the competing demands generatedbroad array of objectives have imposed increasinglyon Soviet resources. )

some of the difficulties now being experiencedtraced back to Khrushchev's excessive optimism ofmost important cause is the acceleration ot militaryspending. Over the last four years, thesegrownonsiderably faster rate than thea whole, and military and space programs have had firstthe scarce resources of high-quality manpower andresulting impact has been felt both in industry, wherehave declined, and in agriculture, where output hasrise above8 level. In consequence, improvementsstandards have slackened, and general economicfallen off from the high rate achieved during most of )

Soviet leaders seemed to avoid difficult Instead, theyeries of ex-

pedients, primarily organizational and administrative in nature, which they hoped would restore the momentum of the economy and relieve them of the need to sacrifice or stretch out their major programs. Inowever, there are signs that they have reappraised their economic position and have decided to reaffirm, and perhaps to strengthen, the primacy of defense over other sectors of the economy, particularly those related to)

D. We believe that, in the short run, the general pattern of resource allocation developed over the past several years and reasserted this year is unlikely to be greatly altered.esult, however, the USSR will face accumulating difficulties in its efforts to raise living standards, andurther slowdown in the tempo of general economic advance. Future economic policy may be shapedariety of events, such as manifestations of consumer discontent and developments in Western military strength and economic expansion. The allocation of resources will probablyentral issue in the political contention which we anticipate after Khrushchev's departure. At some point, economic stringencies could lead the Soviets to explore political ways of reducing the burden of armaments, but presentdo not point in this direction. )

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DISCUSSION

The Soviet economy, viewed from the most generaliebald pattern of Impressive strengths and patent weaknesses In industry, output per worker is roughly equivalent to that of thecountries of Western Europe, but In agriculture it Is half or less. With its output valued in dollars, the economy is supporting military expenditures which are about four-fifths those of the USross annual investment approximately equal to lhat of the US. yetper capita Is less than one-third of the US level. Unlike that of the US. the Soviet economy consistently operates near its capacity; thus there is little or no cushion to meet additional demands. The growth of the economy continues at high though no longer exceptional rates; in the last'three or fourross national product (ONP) hason the average about five percent annually, and industrialby seven to eight percent annually.

While this general pattern of strengths and weaknesses has long been characteristic of the Soviet economy, it is our judgment that the Soviet leaders are now facing particularly difficult economic problems. The leadership. In its across-the-board challenge to the US world position, has taken on heavier commitments than ever in the fields of general economic growth, modern armaments, space, living standards, andaid. At the same time, the Soviet growth rates cited above,impressive in comparison to US performance over the lastears, are not as high as those recorded during most ofs. when the yearly increase of GNP averaged about sesen percent and Industrial production grew by about nine percent annually. The regime's current call for tighter economic controls, for higher efficiency, and for new forms of organization and planning testifies to an increasing awareness of stringencies. The decisions facing the Soviet leaders are becoming more difficult and require them either to narrow their array of objectives or to extend their earlier expectationsomewhat more distant future.

RECENT RECORD

of the difficulty now being experienced can be traced to adecisions and targets established. At that time.had recently defeated the "antlparty group" and achieved aposition, and the presumptions underlying the Seven-Yearbore the marks of his characteristic optimism. Inhe apparently believed that, with the Initial successes of theand other post-Stalinomentum had beenwould carry farm output forward, without further large Injections

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of capital. Agricultural production8 did in fact risetartlingercent, but this was due primarily to the coincidence or good to excellent weather in all major farming regions.

industry. Khrushchev appears to have relied heavily onin efficiency resulting from the modernization of factories andreorganization which he had pushed through,political opposition,onscious ot the manifoldand backwardnesses of Soviet industry, and confident ofto overcome them, heajor campaign forand automation andeduction in the work week.decision seems to have been based on excessive hopes for aman-hour productivity and has accounted for some of the declinegrowth rates.

opiumism partly explains another, probably morereason for current difficulties: the apparent failure ofcorrectly to foresee future military demands and theirthe economy.6eductions in militaryarms output brought down defense spending, and this was anfactor in maintaining growth in other sectors. Thereafter,including Khrushchev's own foreign policies, has conspiredthe military burden, and estimated military expendituresabout one-third82 while GNP was risingover one-fifth. The introduction of advancedarge scale required heavy new expenditures. to Khrushchev's Berlin demands ofSSR to build up Its strategic strength If lt were to make credibleof unilateral action. The military leadership balked atplans to save money by reducing conventional forces andground troops,ekindling of the Berlin crisishelving that project. The continued growth in Westernthroughout this period, and the damage doneimage of Soviet strategic power, have put the USSR underto raise defense expenditures.

he growing military burden, together with rising spacehas in recent years Increasingly held back the advance of the Soviet economy. This effect Is particularly noticeable in the Industries producing machinery and equipment, where weapons and other military hardware compete directly for resources with industrial, agricultural, and transportation equipment and consumer durables. The production of machinery and equipment for nonmlUtary users, which Increased by an estimatedercent or more annually in the, grewate of only nine percent or less in the ensuing yearsfor the military, on the other hand, which declined slightly in the earlier period, rose by an estimated average ofercent per year after

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oreover, it seems certain that orders for military and space programs have enjoyed priority in the competition for specialized, high-grade resources, such as design engineers, highly trained technicians, and high-quality materials and components.

We estimate that military and space programs consumed2 overercent of the total Soviet production of durable goods, aswith aboutercent in the US. The effects of the military and space programs are discernible in the deliveries of machinery toand in the general trends in Ihe equipment portion of investment. The production of trucks, tractors, and other machinery for agriculture fell by nearly two-fifths79 and had regained onlyercent of the earlier levelnvestment in machinery and equipment increased byercent annually58 but only an average ofercent per year subsequently. This factor, along with difficulties in the planning and completion of new construction, explains the drastic slowdown in the growth of investment, which rose byercent1ercent2 after increases ofercent or more in the.

Under the impact of these problems, the post-Stalin improvement in Soviet living standards has begun to slow down perceptibly. The leveling off in agriculture, where net output2 was about equal to that8 but had to supportillion additional people, is the major cause of this slowdown. In addition, however, the continued low priority of light industry in the competition for modem equipment and skilled labor has keptackward sector producing shoddy goods which frequently go unsold despite the continuing rise in money incomes. The annual volume of new housing has remained roughly stationary over the last three years.

While per capita consumption is still rising, the declining pace of improvement and the attendant growth of Inflationary pressures have not been without repercussions. Certain price and tax2 created strong popular resentment and raised fears that consumer interests would be further circumscribed in the future. This was particularly evident ln the provincial cities which have traditionally lagged far behind Moscow, Leningrad, and Kiev in quality of consumer goods and the amenities of life; in several locations the decision of2 to raise meat and butter prices was followed by demonstrations and even riots on the broadest scale in many years.

III. CURRENT POLICY RESPONSES

the pressures generated by these problems and thethe rate of economic growth has declined, the Soviet leadersreluctant to accept the conclusion that some programs wouldbe sacrificed or stretched out. Instead they haveumber

of expedients Intended to boost toe productivity of tbe land, labor, and capital at their disposal. Measures were taken2 to bring order Into the field of construction, where chronically Inefficient buildingand poor coordination between construction work and the delivery of equipment had further increased the volume of unfinished workyoratorium on many new starts and suspending work on low priority projects in order to permit the concentration of resources on completing major projects, the Soviet authorities achieved some success in bringing these projects into operation, but atadditional cost. Becauseack of skilled labor and otherlan for added shifts in machinery plants has so far brought few results, although over the next several years this scheme may enable the USSR to get more production out of Its existing factories.

agriculture, Khrushchev launched in1 yet anothersudden campaigns to bring "hidden reserves" Into action. Thiscalled for planting high-yield crops on the greater part oflying fallow or sown to grasses or oats. He was unable,to secure the additional inputs of machinery, fertilizer, andneeded to take full advantage of this new pattern ofMeanwhile the plowing up of fallow In the New Lands Is likelythe problem of weed control, moisture preservation, andwhich already plague these areas; elsewhere, tbe cultivationnow under rotational grasses will deplete the soil unless therea great deal more lime and fertilizer than is presently available.

the military and space fields, expenditures mounted byercentrimarily because of the growingoffensive and defensive missiles, production of their nuclearresearch and development of newer weapons systems. Sincelittle evidence bearing upon recent decisions concerningwe do not know whether econonuxing measures ofwere devised during the year. Statements by military leadershowever, that they are continuing to press for higher militaryin order lo cover growing expenditures on advanced weaponswithout offsetting reductions in expenditures onOne element In the decision to undertake the Cubanmay have been the prospect ofuick increase Inthreat posed against the US at comparatively lowor not this was the case, the Soviet leadership is still faceddifficult question of how lo achieve, within the USSR'sa strategic posture impressive enough to support theof Its foreign policy objectives.

he November plenumamiliar response to economic problems in the form of an administrative reorganization of both the party and government. This new scheme greatly reduced the role and number of regional economic councils, which were the core of7

reorganizations; their activities were placed under closer centraland their responsibilities for construction and industrial research were transferred to central agencies. Most important, immediateof enterprises was transferred to local party bodies. These party committees in turn have been divided into two hierarchies, one for Industry and the other for agriculture, and have been charged with basic responsibility for plan fulfillment, changes which reflectfaith in the ultimate ability of the party to correct faults in the economic system. In an associatedoint party-state control organization was established to combat falsification, speculation, and other Illegalities which plague the economy. All these and other related changes continued the process, which began several years ago,7 administrative decentralization.

These shifts testify to Khrushchev's continued belief that new administrative arrangements can be used to unlock "hidden reserves" throughout the economy and to help bringeturn to the growth rates ofs. We believe that, on the contrary, Soviet enterprises will be faced with more administrative confusion, multiple andplans from different levels, and inconsistencies between production targets and material supply. Thus, in our view, the new schemes are more likely to Increase than to diminish the inefficiencies ofa large planned economy. Further, they increase the likelihood ofconflicts between the party and the economic administration, and perhaps within the party apparatus as well.

In undertaking this major reorganization, the Soviets appear to have set aside any large-scale Introduction of reforms which would deal more effectively with these problems. Soviet economists have In recent years developed and publicized various schemes to rationalize theof the economy. Some, such as Professor Liberman, have suggested that enterprise directors be granted greater latitude In choosing the ways of reaching centrally-set output goals; others have argued that pricing systems should be developed and allowed toarger role inthe allocation of resources. But such proposals encounterinertia and ideologicaloreover, they contain some danger of eventual encroachments on the leadership's powers to enforce its priorities, and the November plenum merely allowed for continued discussion and small-scale experimentation. Similar objections prevent the leadership from easing its problems byreater latitude to private economic activity. In fact, the stress in recent years on "building communism" has been accompanied by new restrictions on privateof livestock and private housebuilding which have significantly held back progress in both animal husbandry and housing construction.

Over the last three years, Khrushchev has repeatedly argued the case for the consumer. He has urged specifically that more funds be devoted to agriculture and has warned lhat failure lo satisfy the growing

demand for consumers goods could lead to strong inflationary pressuresrop in worker morale. We do not know howhift in allocations he has had In mind; it may In fact have been relatively small, for Khrushchev like his colleagues is strongly devoted to the goals of continued industrialtrong military establishment, and Soviet pre-eminence In space. In any event, his past proposals to divert more funds to agriculture were for the most part shelved and the moderate increases in net agricultural Investment achieved2 and planned3 fall far short of the effort necessary to initiate sustained growth in this sector.

n his speech ofhrushchevuitenote. Rather thanigher priority for consumption, he now is concerned to warn Soviet consumers of coming disappointments and to forestall criticisms by citing defense needs. His statementsthat the leadership has recently reappraised its economicin the light of the shortcomings of the last two years and, perhaps, the strategic situation in the wake of the Cuban missile crisis. His strong reaffirmations of military priorities reflect,inimum, ato proceed with programmed expenditures and, beyondossible decision to increase military spending above previously planned levels, The recent establishmentupreme Economic Council for industry and construction and the appointmentpecialist In defense industries as its head could reflectecision. In any case,indicates that, at least for the time being, there can be noincreases in allocations to agriculture and that the program to raise living standards will be further delayed. While he reaffirms the objective of rapid industrial growth. In our view It is also possible that investment for general industrial expansion will fall further behind schedule.

IV. THE OUTIOOK

IS. In spite of their severe economic problems, the Soviets are stilligh rate ofaboutercent ofwill continue to provide for substantial growth- The entry of larger postwar age-groups into the work force, together with an end to further reductions In the work week, will ease the now relatively tight labor supply, and the number of experienced engineers and technicians is constantly expanding. Particularly acute construction difficulties probably will be overcome,ertain chronic disorder willear of favorable agricultural weather is overdue, and when it occurs, willillip to this sector and to the economyhole.

hese factors seem insufficient, however, toignificant rise in the rate of economic growth. Given the ambitious long-run objectives of the leadership, the USSR's basic need is for more investment

to provide the higher rates of growth which wouldullerof competing demands. In the short run, however, anyincrease in investment could only be made at the expense of the military and space program or the consumer.6dditional investment funds and manpower were made availableeduction ln defense spending; subsequently, when military and space spendinglowdown in the growth of consumption permittedto keep growing. In the last two or three years, however, not only have difficulties accumulated in the consumption sector, but the growth of Investment itself has slowed.

This situation must inevitably focus the leadership's attention upon the military budget and space program. Several elements are likely to be subject to continuing review. One Is military manpower and conventional weapons, where Khrushchev once claimed significant savings were possible. Another is the manned lunar landing program; the Sovietstrong incentive to beat the US In this eflort, but Khrushchev and others have complained of the great expense ofroject, and the USSR is not yet publicly ln thehird is the long-range striking forces, on which it may be possible to hold down expenditures by stressing qualitative improvements, such as very high-yield warheadsreater missile load per submarine, rather than the continued proliferation of deliveryourth is the anti-ballistic missile program, in which the Sovietshoice among deployment nowostly existing system, deployment later of an improved but probably even more expensive system, or no deployment while research and development continues toreakthrough which would reduce costs, provide more certain effectiveness, or both. Recent Soviet statements indicate that military and space programs continue toigh priority, but future stringencies may lead the USSR to reassess themater date.

Should the Soviets decide that growth rates must not fall below the level of the past two or three years, then it Is probably necessary that expenditures on defense and space increase no faster than GNP and that these programs consume no moreihan their present share of the total output of machinery and equipment. It is likely that, underattern of allocations, the present growth rate of GNP could bewell Into the second half of the decade. At the same time the leadership probably could carryourse of moderate but sustained Improvement in consumer welfare.

Alternatively, the Soviets might decide to continue to Increase military and space expendituresate whichrowing share of GNP and machinery production. In these circumstances, investment in the industries supporting defense and basic growth almost certainly would hold priority in the competition for the remaining resources, and the consumer would feel even more strongly the effects of continued

underinvestment in agriculture, light industry, and housing. Under this pattern of allocations, it would be more difficult to sustain present growth rates, not only because of greater stringency in investmentparticularly machinery and equipment, but also because of the possible effects, to which Khrushchev has frequently drawnon worker morale and productivity.

For the Immediate future, we believe that the Soviets are more likely to respond to their economic problems with minor adjustments and further expedients than with any radical new decisions. The record of recent years suggests that the contending arguments in favor ofof defense, and of consumption are all strongly felt within the leadership. But current evidence indicates that no new restraints on military and space spending are in view, and that administrative pressure and reorganization are regarded as the chief means of improving the performance of the civilian sectors. If we have correctly assessed the state and prospects of the Soviet economy, however, the Soviets will find before long that these expedients are unsatisfactory and that they are facing slower tempos of advance.

The Soviets continue to use foreign tradeeans ofsome of the strains in their economy, especially through the import of capital goods from the Industrial West Current and prospective trends In Soviet foreign trade suggest, however, that domestic difficulties in certain sectors may be aggravated by growing export demands.of civilian machinery and military hardware to thecountries willmall but increasing claim oncapacity which is already under strain from high priorityprograms. At the same time, Soviet indebtedness to Western Europe and Japan, primarily for imports of capital goods, has been growing rapidly, and the USSR will face the problem of generating an export surplus sufficient to meet these obligations.

Therehance that events might precipitate important new decisions affecting the allocation of resources. The immediate outlook for the consumer, for example, is poor, and it-is possible thatot discontent will match or even exceed the scalehe leadership's response toituation could range from aupgrading of consumer priorities to reliance upon repressive policies. The course of external events will almost certainly have an influence upon policy choices. East-West tension and an improvement of Western defenses, for example, would strengthen the argument for higher military spending, while economic expansion in the US and Western Europe would bolster argumentsigher rate ofto match the performance of the capitalist economies. Even the relatively small foreign aid program might be curtailed in the search for additional resources, particularly if political trends In the under-

developed countries fall lo meet Soviet expectations or to producenew opportunities.

One conceivable Soviet response to economic strains would be for the USSR, at some point, to consider political ways of reducing the burden of armaments.eduction could be sought either by arms control agreements or by working to bringore relaxedatmosphere In which the USSR felt able to cut its military spending without Jeopardizing its security or giving up its political objectives. The first of these courses would require the USSR to move some distance closer to Western terms for agreement. The second wouldrotracted period of fairly genuine detente, ln which the USSR forebore from policies alarming to the West in hopes of inducing its opponents to reduce their defenses. Present indications do not,point in either of these directions. While economic pressures may lead the Soviets to explore these possibilities during the next several years, any actual shift of policy would also dependariety ofconsiderations and even on fortuitous events which couldthe USSR with unexpected problems or opportunities.

In the contention for power which we anticipate afterdeparture, one leader might try to build popular support by arguing for improvements in welfare, while another mightilitary following by sponsoring high allocations to defense. Theof decentralization and liberalized methods of managing themight arise at that time as factional issues. We do not know which particular questions will come to the fore or how they will be resolved, but we think it certain that economic issues willentral element in the succession struggle, which itself might lead to Important changes In the Soviet system.

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