Gorbachev’s Bottom Line

1.

During a recent visit to the Soviet Union,¹ a small group from the Council on Foreign Relations, including myself, met with senior Soviet officials, Andrei Sakharov, and various dissidents, and had a three-hour session with Mikhail Gorbachev. My impression of the General Secretary was of a new chief executive officer: intense, dynamic, restless, driven, tough, but, emphatically, not just a chairman. Also, by Soviet standards, he is a young CEO. He is not subject to mandatory retirement—at least not for reasons of age. Therefore, he can take a longer view than some of his predeces sors. Indeed, it will take a long time for him to achieve even a fraction of what he has set out to do.

I believe that he is a chief executive who knows that his country is fundamentally not competitive in the world, and he foresees an economy that is both more competitive and more connected with the global economy. At the same time, this intense, dynamic man—to all of us a man with a commanding personality who could be a leading politician in any system and who no doubt is keeping an eye on some of his wolf-like comrades—is understandably anxious for short-term results so that he can consolidate his power and gain time to present his full vision of the future. So his problem in the economic and commercial spheres is to reconcile his long-term vision with short-term political necessities.

For the present, Gorbachev is trying to resolve this problem by squeezing results out of the economy through changing the behavior of workers and managers, what Soviets call the “human factor.” (We heard an old saying attributed to Soviet workers: “They pretend to pay us and we pretend to work.”) What is happening is a kind of productivity jawboning. The prescription, as I understand it, starts with a heavy dose of unrelieved criticism for which, ironically, dissidents formerly could have been put in jail. In my experience, there is now an unprecedented degree of self-criticism by Soviet officials—as well as exhortation and moral persuasion. I also found these Soviet officials far less defensive, ideological, rigid, and dogmatic than they seemed on my last visit in the early 1970s; now they appear much more pragmatic and flexible.

During the first year at least, the officials to whom I spoke said they have increased annual Soviet productivity to over 4 percent, perhaps twice the rate during the previous five years. They aim to increase productivity by a general program of “intensification” or modernization, including incentives for workers and managers, a restructured bureaucracy, greater decentralization in implementing plans, conservation of production inputs, and increased use of science and technology in the economy. For the longer term, however, they know they must invest more in capital equipment to improve productivity.

With respect to near-term results, they say that alcohol consumption is down by a third, accompanied by a 25 percent drop in violent crimes and a 30 percent drop in accidents. Drinking on the job is severely punished. The only example our group could find of a new disincentive in a society that seems to be moving toward incentives is that salesmen now get no bonus points for selling vodka.

Exhortation also marks the drive for quality. In their franker moments, Soviet officials acknowledged that the military and space programs are about the only sectors of their economy that can consistently obtain high quality in production. Yet they also realize that in order to be globally competitive they must dramatically improve the quality of products. And they are trying to achieve this through centralized quality control agencies, posters, and all kinds of exhortations.

I found Gorbachev’s overall goals daunting, if not utterly breathtaking: for example, he told us that his objective was to make the Soviet Union a net exporter of food in this century. The great question is whether the new goals are realistic and workable. But we should not make the mistake of underestimating the seriousness of recent efforts to reach them or of Gorbachev’s commitment to them, and his intensity.

I believe that Gorbachev—along with his closest colleagues—rates his country’s economy as half-backward (in industrial technology) and half-sophisticated (in military technology). And even in the military sphere, he fears that his country could not compete if the ossification of the Soviet economy were permitted to continue indefinitely. He knows that their old theories (like the “big push” theory, which concentrated investment in heavy industry) no longer work in the more sophisticated and dynamic global economy. As Gorbachev has said else-where, “There is no longer a place to hide.”

During our discussions, the question from our group that seemed to engage Gorbachev the most, and to elicit the strongest positive reaction was this one: “Twenty years from now, how will history judge our two countries? Is it possible that other, far nimbler countries that are more concerned with far-sighted choices about their long-term economic destinies will make our two countries look like a couple of dinosaurs circling each other in the sand—militarily powerful to be sure, but more or less obsolete, and even a bit irrelevant, in a global economic sense?”

Some may conclude that Gorbachev’s emphasis on domestic reform—particularly on economic affairs rather than on foreign policy—means an abdication of his priorities as a great power on the world scene. I think not. Rather, I think Gorbachev knows that in the new world political economy it is most unlikely that a weak economic power can remain a strong global political and military power.

One might assume that Gorbachev is aware that he risks a revolt by the various conservative elements within the Soviet system. It is likely, however, that he sees further into the future, and perceives the even larger risks of doing nothing. Some officials even argue that the desultory trends that he inherited in the Russian economy showed that he had no alternative to undertaking reforms.

Gorbachev’s reforms display a kind of incentive approach to decentralizing and “democratization” of the economy. Incidentally, we should not be confused about what is meant by “democratizing.”² Its main goal is not freedom for its own sake, but the kind of freedom that is required for the move toward market incentives and toward the principal goal of greater efficiency and competitiveness. There is no question of allowing any competing political group to be organized, let alone challenge the Party’s ultimate authority.

At the same time Gorbachev is calling for secret elections not only of Party officials but of managers as well. One official told us of a plant in Riga, which advertised for new plant managers. Amazingly, there were two thousand applications. Although the election of managers not only furthers “democratization” and, depending on how the nominating process works, may serve to diffuse Party power, it may also arouse the animosity of the Party organizations in the affected regions. A deeper question is whether the stimulus of economic freedom will get out of hand and escape from the political constraints that Gorbachev wants to maintain. Given the ethnic and racial diversity in the Soviet Union, I see special political risks associated with the geographic decentralization that will be needed for economic reasons. Indeed, while much is said about retrenchment in the central bureaucracies, the deepest retrenchment is far more likely to be in the republics and in the local bureaucracies. Clearly the system cannot be reformed unless it is reformed at these levels.

I will give three brief examples of the kind of reform Gorbachev is talking about. In each case I will compare what is now being done with the situation I found in 1972 following that year’s summit meeting, when, as secretary of commerce, I visited the USSR for negotiations with a group of Soviet officials, including then General Secretary Brezhnev. The three examples of peristroika—literally “reconstruction” but used in the sense of “new way”—are attempts to rationalize the Soviet economy by eliminating the most glaring irrationalities that Gorbachev’s predecessors tolerated. They may also be seen, although it is too early to be confident of this, as attempts to change the fundamental Stalinist system of the 1930s, in which the state exercised a total monopoly of control.

As a first example of peristroika, I should mention some of the reforms in agriculture. In August 1972, when we were negotiating trade and other agreements, we had the opportunity to visit the southern part of Russia and drive through vast farming areas. For mile after mile, we saw all kinds of expensive farm equipment standing idle in the fields. That night at dinner I asked a Soviet minister how he could possibly reconcile the USSR’s agricultural situation—including an acute shortage of capital and agricultural productivity only 11 percent of that in the US—with allowing such expensive equipment to lie idle. The answer, perhaps stimulated by a few vodkas, was that “you’ve got to understand how our system works. The minister in charge of making farm equipment is not judged by who uses it but only by meeting his production goals.” In other words, “That’s somebody else’s department.” This leads to a strong, perverse incentive to selectively overproduce, which is characteristic of the Soviet system.

What is happening now? We heard discussions about team contracts on the farms by which the government rents the land and equipment at low prices, and provides other inputs to the teams at specified costs, and permits the members of the team to keep the revenues from up to 25 percent of the output of these farms. In many places, the word “team” serves as a euphemism for family farming. Asked where they can sell what they produced, our hosts replied, “anywhere they wish.” You ask at what prices, and they say at whatever price they can get for it.

A typical example is meat. Meat in the state stores is often of poor quality, and it is not always available to consumers, who must often stand in long queues when they can obtain it. They have long permitted—and Gorbachev has expanded—the sale of privately produced meat (in so-called farmers’ markets) that is fresher and of better quality; interestingly, these private prices are as high as five times those in state stores.

Gorbachev has now created intermediate markets between the state stores and farmers’ markets. These are called “cooperative stores,” and they have reasonably good products, shorter queues, and prices somewhere between the other two kinds of outlets. (Incidentally, we inadvertently heard a bit of testimony on the integrity of Soviet government statistics: if you note the Soviets’ pride in their low inflation rate and ask which meat prices they put into government statistics on inflation, they answer that they use “state prices” and not the “private prices.”)

A second example of Gorbachev’s economic reforms concerns some seventy so-called “enterprise centers” which are to be established in the twenty to thirty ministries. These are supposed to be profit centers for sales at home and abroad, handling about 65 percent of all exports. Their managers will have the responsibility for making profits wherever they can. In the past, it is said, managers resisted exporting. Now presumably they will fight to get responsibility for exports. They will be expected to manage international product planning, technology, and, most importantly, marketing. As one minister put it, managers will have to “satisfy the customers, not the ministries”—a dramatic reversal if it is acted upon.

Joint ventures with foreign investors provide my third example. In 1972, when my colleagues and I brought up the possibility of joint ventures between US companies and Soviet industries, we were told that the concept was a capitalist one, and not something that Soviet officials could even discuss. Now they speak freely of 49 percent equity ownership by the foreign partner and often and approvingly mention profits. True to their dogma—to the extent that any dogma still prevails in economic matters—the government will own the “means of production,” namely the land and the buildings, and will lease them to the venture at attractive rates; but the foreign companies will be expected to contribute some portion of the technology, expertise, and other factors. They want these joint ventures to be self-financed with hard currency. To achieve this, they want joint ventures that will sell both to domestic and foreign markets.

When we asked how they would handle pricing in these joint ventures when global prices differed from domestic prices—which are set for nonmarket reasons and are almost always lower than the world market prices—they replied that for purposes of determining the foreign partner’s profits of joint ventures, the transfer prices used would be the higher global prices.³

Soviet officials also have some preliminary ideas on taxes, loans, and repatriation of earnings, but they freely admit that all these matters (e.g., the length of the “tax holiday,” for profits of foreign companies) are still to be worked out and are open to negotiation. Indeed, one of the stunning aspects of peristroika and of “flexibility” (another current buzz word) is the new tolerance for ambiguity. Goals are announced without any clearly defined way of achieving them. Drafts of suggested reforms are distributed for “democratic” discussions and revisions. In the words of one senior minister: “Our aim is to involve as many people as possible in the solution of our social and economic problems,” even if, as Gorbachev admits, glasnost will lead to different conclusions. Under the old way of thinking, unanimity was essential.

It is possible to discuss and even read in the press how the new dogma may eventually define Chapter Eleven-type bankruptcies; they admit that some bureaucrats are even thinking about that unthinkable condition, and some new euphemisms will undoubtedly be found for “going bust.” In general, while they may have many more questions than answers about some of their economic reforms, they are clearly going ahead with them.

From the standpoint of an individual company, if the long-term potential seemed to justify it I think the possibility of a joint venture would be certainly worth exploring. I would pay special attention to whether there is a real need in the Soviet Union for a foreign company’s particular expertise and products. If there is, my sense is that Deputy Prime Minister Kametzev, Deputy Chairman Ivanov, Minister Aristov, and their colleagues will show greater interest and more flexibility than one might expect on terms, taxes, and financing, as well as raw material contracts, management, licensing, and the like. Incidentally, Deputy Prime Minister Kametzev is one example of the impressive officials Gorbachev is promoting to the top ministerial levels. He seems to have the leading part in reorienting the Soviet Union to the global economy, with the task of somehow coordinating the various huge bureaucracies involved in foreign economic activities. Having had a try at a far more modest version of that job in our own government, I don’t envy him.

2.

The goals of the current leaders are vastly ambitious—not simply to be far more efficient and competitive in selling products abroad, but to be much more extensively connected to the world economy. For example, Soviet officials want to have 15 percent of their GNP in foreign trade by the year 2000. The real issue, again, it seems to me, is whether the systemic changes needed to reach these goals can be implemented.

Obviously, the role and attitude of the huge bureaucracy will be central to the success or failure of Gorbachev’s efforts to implement his reforms. On the prospects for success, I can only quote what the ministers themselves are saying. One referred to the fact that bureaucracies have “non-aggression treaties” with one another. They say you can get widespread agreement on the general proposition that there are too many bureaucrats. Indeed, we heard of plans to cut the bureaucracy by up to one-third. But, they said, you get very little agreement about which bureaucrats should be eliminated.

One minister told us, “We have a concept called unearned income.” We wondered what he and his colleagues were talking about. It turned out they were referring to the middle-level apparatchiks who presumably are not earning their incomes and who would seem to be the losers if these reforms were to go forward. (Indeed, I was struck by the contrast between the attitudes of Brezhnev and Gorbachev toward the bureaucracy. Brezhnev, no reformer, would never have so directly confronted the senior bureaucrats. Indeed, he was the “bureaucrats’ bureaucrat,” the ultimate advocate of cronyism and the old-boy network.)

“I want to be sure we understand this,” I said. “The bureaucrats, according to you, are part of the problem, but you’re expecting them to be part of the solution by eliminating themselves.” “Good point,” was the reply. To illustrate, they use the image of a group of black crows sitting on a tree branch. If you clap your hands, the crows all disappear, but in five minutes more black crows than were there originally have landed on the branch. They speak openly about Parkinson’s Law, about how some men, meaning bureaucrats, work: by creating more, useless, work. They are quite frank in saying that they don’t really know the answer to the problem of the bureaucracy. “In fact,” one minister said, “you have an advantage. Your competitive system makes the problems go away, because the survival of those directly involved is at stake. That’s not true in our system.”

To prepare the ground for major economic reform, and to fight bureaucratic obstinacy and inertia, Gorbachev appears to have chosen a political strategy based on a reform coalition that includes his close associates, and what one might call the creative intelligentsia, i.e., the press, the writers, and the scientists. One hears that this base of support has expanded to include young people, women, skilled workers, professionals, and other reform-minded constituencies, but the real extent of his popularity remains a question.⁴

Among the many other obstacles to carrying out the reform program is finding and training the new international managers. The concept of a manager of an “enterprise profit center” aimed at markets throughout the world is wholly different from that of a factory manager in which some central plan tells one how much of what to make and when. The new breed of managers is expected to price, plan, anticipate technological change, and so forth. The attitudes, the disciplines, and the skills required for these new tasks are very different from what they have been in the past. When I think of the years it has taken to develop this kind of profit-minded manager in some of our own multinationals, it is clear what a formidable task the Soviets face. (Indeed, it did not seem entirely fanciful to imagine that business school programs might one day become one of the more important “imports” of the Soviet Union. Or perhaps one of the earliest of the new joint ventures might be with the Harvard Business School.) Insisting on Soviet management at the very top of the proposed joint venture will certainly not ease the process of importing much-needed Western management techniques.

Fundamentally, the Soviets are trying to reconcile market forces with a planned economy. They are seeking a modernized two-sector economy of the kind that was tried in the 1920s. There is no question that the market is going to start driving them one way in resource allocation, while central planning and their concept of “social values,” as they put it, will drive them in the opposite direction. Gorbachev knows that vast built-in subsidies amounting to hundreds of billions of rubles are a drain on the economy and must be substantially reduced. Yet these subsidies—one might call them “entitlements”—embody the social contract between citizen and state to ensure employment and very cheap necessities. (Consumer goods of fairly high quality tend to be in short supply. This may be one of the reasons that, as I was told, Soviet citizens save about one-third of their incomes.) Thus, the economic reforms may well come in conflict with the social contract and add potentially explosive elements to the Soviet political equation.

Soviet officials themselves use the example of children’s clothes to describe this tension. The subsidies for the expenses of having and raising children are enormous, as they are for housing and food; and these subsidies obviously have nothing to do with the market. Soviet officials simply want to encourage people to have children, and they want to make it inexpensive to do so. As any market economist will tell you, this policy creates problems. Indeed, one minister said that children’s clothes have become so inexpensive that taxi drivers are now using little girls’ dresses to wipe their windshields.

They now wonder how to reconcile market-driven enterprise centers and joint ventures with the central planning and vast subsidies that move in another direction. They have some tentative answers, like setting aside up to 7 percent of their budget for investments in a kind of contingency “kitty,” to reflect “unpredictable” market forces—but I think they are a long way from reconciling these basic conflicts.

When the question of trade and commercial relations with the Soviets arises, some people think of the economic leverage the US might gain from encouraging these relations. In my view, however, too many on the American side tend to overestimate what we can do to them economically. I have heard proposals that if we don’t sell them one item or another, such as oil pipelines, somehow we’re going to drive their system to bankruptcy or bring them to their knees. I am convinced now, as I was after my trips to the USSR in the early 1970s, that this notion is simplistic. Theirs is a state-controlled system that in important respects can be fully self-reliant; we may inconvenience them, but not enough to change anything fundamental.

In view of the vast scale of our own economy and the enormous structural challenges the Soviets face in bringing off deep economic reforms I would guess that those who expect large economic payoffs in the reasonably near future to the US economy (or, for that matter, to the Soviet economy) are going to be disappointed. So will those in the US who think we can significantly influence the Soviet economy as a whole or significantly encourage or discourage Gorbachev’s reforms.

3.

For the US as well, the 1990s will be a decade of new and increasing tensions between international needs and economic constraints caused by our budget deficit, the balance of payments deficit, growing foreign debt, and debt service costs. The awkward but enduring fact is that, taken together, the claims of our various national interests and global obligations will far outrun our available resources to sustain or defend them. As the full implications of being the world’s largest debtor dawn on us and on the rest of the world, for example, the gap between our interests and our capacities will become larger, more obvious, and more painful.

Given these economic constraints and our urgent need for resources to invest in our own economic future (for example in scientific education and training for the young), it is very much in our national interest for essential defense expenditures to decrease as a percentage of GNP—if this can be done consistent with our security interests.⁵

Unaccustomed as we are to having constraints on our resources set limits on US foreign policy, we will increasingly need to ask how to reduce our defense burdens safely. Control of strategic nuclear arms has been at the center of the stage in our dealings with the Soviets, as it should be. Yet it seems clear that we should put additional emphasis on minimizing the military programs with the heaviest economic costs, i.e., those for nonnuclear forces. This is why I am drawn to the possibility of significant reductions in NATO conventional forces. By any accounting, the savings in costs from such reductions, if they involve actual demobilizations, not reassignments, is significantly larger—by a factor of several times at least—than corresponding nuclear reductions.⁶ (Interestingly, the analytical studies of conventional arms reductions are of poor quality by comparison with those on nuclear arms control. In my view, we will need to give much more serious intellectual attention to conventional arms negotiations.)

Gorbachev seems to sense clearly the even larger constraints on Soviet resources. From his perspective, the economic gains from curtailing conventional forces are obvious. And adverse demographic factors in the Soviet Union, including declining birthrates and life spans, and the declining proportion of Russians to non-Russians, suggest additional reasons why he may want to reduce conventional forces. Gorbachev speaks, moreover, with convincing passion when he says that nuclear war would be a “universal catastrophe” and the “worst of crimes,” since it could never be corrected. If nuclear war is impossible, he said to us with some force, why are we both building more nuclear weapons, and creating new ones when we can never use the old ones? (At the same time, he expressed concern about a time bomb of another sort—the third world debt bomb—which he said could well explode before the nuclear bombs about which we worry so much.) Thus we find ourselves in a situation in which both societies may be able to relieve growing and conflicting pressures in allocating resources for consumption, investment, and defense.

For the reasons I have mentioned, Gorbachev needs tangible evidence of progress now. Without taking up the complex questions of precise timing, the possible links to other issues, or the tactics for preparing the necessary negotiations, I believe there is a good possibility that, at some point in the reasonably near future, arms control agreements can be reached that are much more far-reaching than the current, rather limited, “zero-zero” proposal on intermediate-range nuclear missiles. Agreements to limit such forces hold out potentially enormous possibilities for joint economic and security gains.

With Harold Brown, General David Jones, and Cyrus Vance, I took part in several hours of frank and revealing talks with senior Soviet arms control officials in which they showed themselves willing to discuss specific and verifiable kinds of space research on SDI. In separate sessions with different senior Soviet military officials, they reconfirmed the Warsaw pact proposal of June 1986 for a 25 percent cut in conventional forces from the Urals to the Atlantic. The officers we talked to noted that for thirty years the Soviets had insisted that any troop reductions on Soviet soil be accompanied by troop reductions on American soil; they described the June 1986 proposal as a significant concession by Gorbachev. The equipment affected by the proposal could be destroyed, they said, and the troops demobilized, and all this fully verified.

The complex requirements for a successful nuclear arms control agreement have been much discussed. Less well appreciated are the difficulties of an agreement to jointly reduce conventional forces. General David Jones has said that conventional arms negotiations are at least ten times more complicated than those over nuclear arms. Given the asymmetries between the conventional forces on both sides, equal reductions may lead to greater imbalances between them. There are a great many variables—the actual geographic location of the forces, their effective states of readiness, the capacities on both sides to transport and redeploy forces quickly (which affects the warning times for each side), the extent to which storage facilities are used, technological differences, and so forth. Moreover, especially where actual demobilization of troops and destruction of stocks are involved, highly intrusive forms of verification may be needed to ensure that the residual forces remain at agreed levels.

These very complexities lead some experts to speculate that reductions in conventional forces by both sides might be made without a formal negotiated agreement, particularly in view of Gorbachev’s inclination to make “bold” moves. The Soviets may be drawn to cutting back some of their thirty Eastern European divisions—including, we may hope, some of their tank armies—not only for economic and demographic reasons but as part of a “peace offensive” aimed at splitting NATO. In the US, budgetary limitations may combine with domestic isolationist sentiment to put pressure on the United States to pull back some of its troops unilaterally from Europe. I would far prefer to see any such reductions made for strategically sound reasons, in concert with our allies, and along with similar if informal reductions by the Soviets. Yet despite the difficulties involved in making workable agreements for conventional force reductions the economic advantages to both sides could be much larger than from corresponding reductions in nuclear weapons.

4.

When assessing Soviet economic reforms and the possibilities of arms control agreements, we should, of course, ask the fundamental strategic question: “What is in our interest?” I believe it is in our interest for the Soviets to concentrate on domestic reform and on ways to create links with the international economy. If they do so, the process by which they make decisions would become both more complex and more rational; in particular, their system for allocating resources might eventually involve real trade-offs between economic and military purposes. If the Soviet leaders are willing to concentrate heavily on domestic problems, one result could be a tendency to conduct Soviet foreign policy at lower costs and with fewer risks.⁷

How, finally, should we assess the consequences of Gorbachev’s economic reforms for the US? Some would argue that if the economic reforms were very successful very early, the Soviets might be drawn to increasing expansionism, and to foreign adventures. This could well be true; but such an unprecedented degree of success seems most unlikely, in my view, for the reasons I have suggested; and it would in any case be simplistic to predict Soviet foreign policy moves on the basis of differing degrees of success in carrying out reforms. On the other hand, if these reforms fail or succeed too little, then Gorbachev will probably fail with them. In that event, the alternative would likely be a far more orthodox and repressive regime. The combination of a backward country, a harsher regime, and an unhappy and frustrated population could lead to a far more aggressive and dangerous foreign policy that concentrates on “targets of opportunity” in vulnerable parts of the world; such an outcome could create significant problems for the US. This, incidentally, was the view Andrei Sakharov urged on us.

In my view, as others have said about China, US interests might best be served if Gorbachev’s economic reforms “make progress slowly.” However, we should have no illusions about our limited capacity to influence the results of Gorbachev’s reforms—or even to predict how various economic and arms control measures we might take would affect his prospects. What should be clear is that a cautious but determined effort by the US to reach a comprehensive arms control agreement could be in the independent interest of each country.