Several years ago, the Soviet economy reached a point where (1) the command economy system had been fatally damaged while (2) the minimal institutions required for a private sector market economy to function had not been put in place and (3) the state had made almost no progress towards creating for itself the public finance system of a mixed economy. Many things have changed in the interim but these three broad statements remain basically descriptive of the state of affairs. From a macroeconomic standpoint, this had all the marks of an unsustainable situation—and, of course, it has not been sustained. Russian industrial production has declined by more than 30 per cent at the same time as the economy is now entering hyper-inflation.

To belabour the obvious: the depression in the Former Soviet Union fits neither Keynesian nor Monetarist theory and certainly not Real Business cycle theory. The ruble inflation also has features that make it sui generis. Western macroeconomics, whether traditional or modern, does not provide a ready-made guide to how the present fsu dilemmas should be dealt with. It appears that every economist and newspaper columnist around feels able to offer the Russians advice purported to be more valuable than the price charged for it. The truth is that we need to understand the situation better. While I have had some first-hand exposure to the problems,footnote1 the views expressed in what follows are not those of an expert.

I will sketch three themes: the first concerns the structure of industry, the second money and finance, and the third some of the legal and political aspects.

The manufacturing sector built up under central planning is characterized by a high degree of vertical industry integration and reliance on very large plants. Individually, these plants tend to be technologically inflexible and so is the entire system consisting of such plants. The planners had exaggerated notions of the economies of plant scale and little understanding of the systemic economies of scale external to the plant. Their ‘gigantomania’ left a very vulnerable legacy: many large plants depend on a single, or at least dominant, supplier for some of their raw materials or intermediate inputs and, similarly, have one dominant customer. If one such gigantic plant ceases to operate, others are left without supplies or without customers. Failure in one part of the system, therefore, can cascade through a large part of it. Such failures are now occurring on a large scale and, in my judgement, constitute the most intractable part of the current crisis in thefsu economy and the aspect of it, moreover, that is not at all amenable to traditional macroeconomic prescriptions.

A large proportion of the final goods output of this industrial structure has been what we call ‘defence production’ when referring to the United States or ‘armaments’ when talking about other countries. Military production on anything like the old scale will no longer be sustained but conversion to civilian production is far more difficult in the fsu than in the us. In the United States, land, labour and capital trickle away from military into civilian uses via thousands of market channels. These markets have yet to develop in the fsu. Besides, the mania for gigantic plants combined with a mania for secrecy created a number of towns totally dependent on military production and utterly lacking alternative employment opportunities. The Russians, therefore, are more or less forced to convert existing plants to entirely different uses. Western defence firms have not been successful at this kind of conversion, although they have no difficulty changing the mix of inputs that they buy. The Gosplan input-output table is far more inflexible, making the difficulties of switching a particular plant from tanks to refrigerators all but insurmountable.