SOVIET ECONOMIC PROBLEMS (NIE 11-5-63)

Created: 3/20/1963

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NATIONAL INTELUGENCE ESTIMATE

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Economic

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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 of 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-

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pcdicnts, 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. Wc believe that, in the short run, the general pattern of resource allocation developed over the past several years and reasserted tbis 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

I. INTRODUCTION

The Soviet economy, viewed irom 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 ls 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 that 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 four years, gross national product (QNP> 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, ln Its across-the-board challenge lo 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 ONP averaged about seven 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 thc Soviet lenders are becoming more difficult and require them either to narrow thoir array of objectives or to extend their earlier expectationsomewhat more distant future.

II. THE RECENT RECORD

ome of the difficulty now being experienced can be tracedet of decisions and targets established. At that time,had recently defeated thegroup" and achieved aposiUon, and the presumptions underlying the Seven-Yearore the marks of his characteristic optimism. Inhe apparently believed that, wiih the initial successes of the New Lands and other post-Stalinomentum had been achieved which would carry farm output forward without further large injections

forward

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

In industry. Khrushchev appears to have relied heavily on future gains in efficiency resulting from the modernization of factories and the administrative reorganization which he had pushed through, against strong political opposition,onscious of the manifoldand backwardnesses of Soviet industry, and confident of his ability to overcome them, heajor campaign forand automation andeduction in the work week. The latter decision seems to have been based on excessive hopesise in man-hour productivity and has accounted for some of the decline in industrial growth rates.

Khrushchev's optimism partly explains another, probably morereason for current difficulties: the apparent failure of Soviet planners correctly to foresee future military demands and thoir impact upon the economy.8eductions in military manpower and arms output brought down defense spending, and this was anfactor ln maintaining growth in other sectors. Thereafter,including Khrushchev's own foreign policies, has conspired to increase the military burden, and estimated military expenditures grew by about one-third82 while GNP was rising by slightly over one-fifth. The introduction of advanced weapons and equipmentarge scale required heavy new expenditures. Western resistance to Khrushchev's Berlin demands of8 obliged tbe USSR to build up Its strategic strength Ifere to make credible its threats of unilateral action. The military leadership balked atplans to save money by reducing conventional forces andground troops,ekindling of the Berlin crisis1 led to shelving that project. The continued growth in Western military strength throughout this period, and the damage doneo the Image of Soviet strategic power, have put the USSR under Increasing pressure to 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 compote directly for resources with industrial, agricultural, and transportation equipment and consumer durables. The producUon of machinery and equipment for nonmilitary users, which Increased by an estimatedercent or more annually in the. grewate of only nine percent or less in tho ensuing years.for 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 Iiave enjoyed priority ln the competition for specialised, 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 thc equipment portion of Investment. The production of trucks, tractors, und other machinery for agriculture fell by nearly two-fifths79 and had regained onlyercent of the earlier level1 Investment 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 drasuc slowdown in the growth of investment, which rose byercent1ercent2 after Increases ofercent or more in the.

Under the Impact of these problems, the post-Stalln 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 tbe major cause of this slowdown. In addition, however, the continued low priority of light industry to the competition for modem equipment and skilled labor has keptackward sector producing shoddy goods which frequently go unsold despite the continuing rise fn money Incomes. The annual volume ot new housing has remained roughly stationary over the last three years.

While per capita consumption Is still rising, thc 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 in the provincial cities which have traditionally lagged far behind Moscow, Leningrad, and Kiev in quality of consumer goods and thc amenities of life; in several locations thc 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, thc Soviet leadersreluctant lo accept the conclusion that some programs wouldbe sacrificed or stretched out. Instead they haveumber

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of expedients Intended to boost tbc productivity of the land, labor, and capital at their disposal. Measures were taken2 to bring order Into thc Meld of construction, where chronically inefficient buildingand poor coordination between construction work and the delivery of equipment had further increased thc 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,

In agriculture, Khrushchev launched in1 yet another of his sudden campaigns to bring "hidden reserves" Into action. This time he called for planting high-yield crops on the greater part of acreage previously lying fallow or sown to grasses or oats. He was unable,to secure the additional inputs of machinery, fertilizer, and skilled manpower needed to take full advantage of this new pattern of land use. Meanwhile the plowing up of fallow in the New Lands is likely to Intensify the problem of weed control, moisture preservation, and soil erosion which already plague these areas; elsewhere, the cultivation of areas now under rotational grasses will deplete the soil unless there Isreat deal more lime and fertilizer than is presently available

In the military and space fields, expenditures mounted byercentrimarily because of thc growing deployment of offensive and defensive missiles, production of their nuclear warheads, and research and development of newer weapons systems. Since we have little evidence bearing upon recent decisions concerning future programming, we do not know whether economizing measures of any sort were devised during the year. Statements by military leadershowever, that they are continuing to press for higher militaryin order to cover growing expenditures on advanced weaponswithout offsetting reductions in expenditures on conventional forces. One element in the decision to undertake the Cuban missile venture may have been the prospect ofuick increase In the strategic threat posed against the US at comparatively low cost. Whether or not this was the case, the Soviet leadership is still faced with the difficult question of how to achieve, within thc USSR's economictrategic posture impressive enough to support the full range of Its foreign policy objectives.

The November plenumamiliar response to economic problems ln thc 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

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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. Uie new schemes are more likely to increase than to diminish Uie 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, thc 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 tho opera-Uon of the economy. Some, such as Professor Ltberman. 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 loarger role lnthe allocation of resources. But such proposals encounter bureau-craUc IncrUa and Ideological objections; moreover, they contain some danger of eventual encroachments on Uie leadership's powers to enforce Its priorities, and Uie 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 Uie case for the consumer. He has urged specifically that more funds be devoted to agriculture and has warned that failure to satisfy thc growing

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demand fur consumers goodi could lead to strong inflationary pressuresrop in worker morale. Wc do not know howhift ln allocations he has had in mind; It may in fact have been relatively small, for Klirushchev like his colleagues is strongly devoted lo 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 uie most part shelved and the moderate increases in net agricultural Investment achieved2 and planned3 fall far short of the efiort necessary to Initiate sustained growth in this sector.

his speech ofhrushchevuitenote. Rather thanigher priority for consumption,is concerned to warn Soviet consumers of cominglo forestall criticisms by citing defense needs. His statementsthat the leadership has recently reappraised Its economicln the light of the shortcomings of thc last two years and,strategic situation in the wake of thc Cuban missile crisis.reaffirmations of military priorities reflect,inimum, ato proceed with programmed expenditures and, beyondpossible decision to increase military spending above previouslyThe recent establishmentupreme Economic Counciland construction and the appointmentpecialist inas ils head could reflectecision. Ln any case,indicates that, at least for the time being, there can be noincreases in allocations to agriculture and that the programliving standards will be further delayed. While he reaffirmsof rapid industrial growth, in our view il Is also possiblefor general industrial expansion will fall further

IV. THE OUTLOOK

spite of their severe economic problems, the Soviets area high rate ofaboutercentwill continue to provide for substantial growth. Thelarger postwar age-groups Into the work force, together with anfurther reductions In the work week, will case the now relativelysupply, and the number of experienced engineers andconstantly expanding. Particularly acute constructionwill be overcome,ertain chronic disorderA year of favorable agricultural weather is overdue,it occurs, willillip to this sector and lo the economywhole.

hese factors seem Insufficient, however, toignificant rise In the rate of economic growth. Olven the ambitious long-run objectives of the leadership, the USSR's basic need Is for more Investment

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to provide the higher rates of growth which wouldullerof competing demands. In the short run. however, anyincrease in Investment could only be made at tlie expense of thc miliiary and space program or the consumer,6dditional Investment funds and manpower were made availableeduction in 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 ln 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 effort, but Khrushchev and others have complained of thc great expense ofroject, and the USSR is not yet publicly in thohird Is the long-range striking forces, on which lt 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 loreakthrough 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 tho Soviets decide that growth rates must not fall below the level of the past two or three years, then lt Is probably necessary that expenditures on defense and space incrcaso no faster than GNP and that these programs consume no more than their present share of the total output of machinery and equipment. It Is likely lhat, 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 thc 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

SarRET

underinvestment in agriculture, light industry, and housing. Under this pattern of allocations, II 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 SovieU are more likely lo 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 ln 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 reorganizaUon are regarded as the chief means of Improving Uie performance of the civilian sectors. If wc 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, lhat 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 imporla 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. Thc immediate outlook for the consumer, for example, is poor, and it is possible thatof 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 thc argument for higher military spending, while economic expansion in Lhe US and Western Europe would bolster argumentsigher rate oflo match the performance of the capitalist economies. Even the relatively small foreign aid program might be curtailed in thc search for additional resources, particularly if political trends in the under-

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developed countries fail 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, in 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 wc 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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