Why Perestroika Failed

Viktor Korotayev/Reuters

ed dolan is a senior fellow at the Washington-based Niskanen Center. This essay is adapted from his Niskanen commentary found here.

Published December 1, 2022


Mikhail Gorbachev, who died last August, set out to make changes in the Soviet Union and the world. For the most part, his efforts were greeted favorably in the West, but not all had lasting effects. What worked, what didn’t, and why?

In foreign policy, Gorbachev will be will be remembered most for his decision not to deploy his army to stop the collapse of the Soviet empire. Early on, he made some violent but brief interventions in the Soviet republics (Georgia and Lithuania). However, he allowed the non-Soviet nations of Communist Europe, from Bulgaria to Poland, to reclaim their independence peacefully. He doesn’t always get as much thanks and respect for that as he deserves. Sadly, despite that achievement, his broader hope that Russia and the West could coexist in peace is now in tatters.

In the area of domestic policy, Gorbachev is remembered for glasnost (perhaps best translated as openness) and perestroika (economic reform). Those had mixed results.

Glasnost was at least a temporary success. Freedom of speech, assembly and travel were significantly liberalized even before Gorbachev left office. In Boris Yeltsin’s post-Soviet Russia, constraints on speech, assembly, travel and the press were further relaxed. Parts of the legacy of glasnost survived into the early years of Vladimir Putin’s rule — the last traces did not vanish until the crackdown that followed Russia’s 2022 invasion of Ukraine.

But perestroika, the economic component of Gorbachev’s reforms, never really got off the ground. In retrospect, we can see that three flaws doomed it from the start.

Perestroika Was Only a Half Measure

Central planning was never quite the right term for the Soviet economy. Gosplan, the centralized Soviet economic planning agency holed up in a hulking headquarters just off Red Square, had neither the knowledge nor the computing power to tell every factory and farm in the country what to do. Really, all Gosplan ever managed was to set a few priorities. Those, plus a lot of carrots and sticks, provided a framework for back-and-forth bargaining between Moscow and local interests. The managers of factories and collective farms always had plenty of leeway to settle details. Over time, the system settled into a sort of polycentric equilibrium that kept the wheels turning.

By the time Gorbachev came along in 1985, though, the wheels seemed badly in need of lubrication. He decided to tinker. But tinkering with bits and pieces of a complex system while leaving others in place always risks unintended consequences.

Many of Gorbachev’s key economic changes aimed to give factory directors more control over how to meet priorities that were still broadly set by the center. The new freedoms included a greater say in determining production methods, hiring and the sourcing of inputs. Local managers also got more control over their finances rather than having to follow a strict financial plan. But it was never Gorbachev’s intention to establish a real market economy. Among the things he left in place were state ownership of the means of production, incentives based on quantitative targets rather than profits, and price controls. 

Limited enterprise autonomy without private property, profits or prices proved a toxic mix. Local managers did use their freedoms to acquire new equipment and hire new workers, as intended. In principle, though, they were supposed to cover the costs from their revenues. In practice, financial shortfalls were papered over with ad hoc subsidies and easy loans from state banks. As demand rose for machinery and raw materials, their prices remained frozen, leading to shortages of producer goods. Increased competition for labor pushed up household incomes, but rising incomes plus fixed prices led to shortages in consumer markets, too. Together, inflexible prices, meager gains in output and debt-financed growth of demand led to repressed inflation on a colossal scale.

By 1990, the contradictions of perestroika were apparent. Falling output and repressed inflation led to long lines and short tempers. Indeed, in the grand tradition of dissent, perestroika jokes became an art form. As in:

A long line of men have been waiting for hours to buy vodka. One of them cracks. “I’m going to go shoot Gorbachev!” he yells, and runs off. An hour later he comes back and sheepishly asks to reclaim his place in the vodka line. “I tried,” he says, “but the line there was even longer than this one!”

A group of more radical reformers proposed a 500-day plan that aimed to complete the transition to a market economy by ending price controls, privatizing government enterprises and opening the Soviet economy to the world. Gorbachev’s government toyed with accepting the plan, but politics intervened. First there was a failed coup in the summer of 1991. Then, a few months later, the Soviet Union itself was disbanded, leaving Gorbachev as a president without a country.

Without property rights, contract enforcement and investor protections, you don’t get capitalism. You get kleptocracy. Russia didn’t have the institutions it needed in the 1990s, and it still does not.
Oops — We Forgot About Institutions

Going into 1992, the Russian Federation, with Boris Yeltsin as president, had inherited roughly half of the Soviet Union’s population and all of its economic problems. Just weeks after Russia formally became a sovereign country, Yeltsin unleashed a program of shock therapy that echoed the 500-day plan, but compressed it into an even shorter time frame.

Decontrol of prices early in 1992 immediately led to hyperinflation. Over the course of the year, prices rose by more than 2,000 percent. The long lines of the Gorbachev era disappeared overnight, but so did the life savings of ordinary Russians. Meanwhile, privatization led to the emergence of the now-familiar new class of super-rich oligarchs, but did not revive the economy as a whole. On balance, the events of that fateful year showed that neither the Russian reformers, nor in many cases their Western cheerleaders, had more than a superficial understanding of the nature of a market economy.

Somehow, in their fixation on technical details, the reformers had not recognized that a successful market economy needs strong institutional foundations. Without property rights, contract enforcement and investor protections, you don’t get capitalism. You get kleptocracy. Russia didn’t have the institutions it needed in the 1990s, and it still does not.

The figure below, based on my own work at the Niskanen Center, shows the relative institutional strengths of four very different countries circa 2020. Each country gets a score of 0 through 10 on three aspects of state/government capacity (administrative, security and fiscal) and five characteristics of liberal democracy (constitutional limits on government, quality of market institutions, personal freedoms, procedural democracy and social protections). The quality of market institutions, in turn, is measured as the average of scores for property rights, contract enforcement and investor protections. (See the Niskanen Center website for details of the methods and measures underlying the chart.)

Dolan Ed Perestroika Chart

As the figure shows, Singapore has the world’s highest score for market institutions, with a perfect score of 10. The United States does quite respectably with 8.3. China is well behind — but its score of 6.2 is at least better than its scores for freedom and democracy. Of the four countries shown, Russia’s market institutions are by far the weakest, with a score of just 4.9. If data on Russia’s market institutions were available for the Yeltsin era its score would have been even lower, and they are probably lower now than in 2020. Other institutions that are important for supporting a market economy, including fiscal and administrative capacity, are also very weak in Russia.

Cultural Values

I had a front-row seat for a lot of this. After visiting Russia several times in the late 1980s, my wife and I settled-in to teach in Moscow starting in the fall of 1990. We eventually founded our own small American-style MBA program, and continued to run it through 2000, Putin’s first year in power.

The students in my economics classes, most of whom had backgrounds in physics, math and engineering, had little trouble with equations and models. Over time, though, I began to see that they had subtly different perspectives on some of the less quantifiable aspects of a market economy.

One example is captured by the common Russian expression “kto-kovo?” or “Who is going to get the better of whom?” If you start from a kto-kovo perspective, you see every potential business deal as a zero-sum game. Someone is going to end up the winner and someone the loser by guile, misinformation or force. Mutual gains from trade, the basis of Western economic thinking from Adam Smith to the present, would be a rarity.

Another difference lies in the Russian understanding of envy. Russians, more than English speakers, distinguish clearly between “black,” or malign, envy and “white,” or benign, envy. If your neighbor has a cow, white envy motivates you to work hard so you can get a cow, too. Black envy motivates you to poison your neighbor’s cow.

In a classic Russian joke, a man catches a magic fish. “I will give you anything you want if you throw me back in the sea,” says the fish. “But there is a catch. Anything I give you, I will give doubly to your worst enemy.” The fisher thinks long and hard. Finally, he says, “OK, it’s a deal. Make me blind in one eye!”

Clearly, a mentality of black envy is not a good basis on which to build a system of productive rivalry and mutual gains from trade.

In her 1994 book, Systems of Survival, the great social thinker Jane Jacobs outlined her understanding of the cultural foundations of a market economy. She drew a contrast between two cultural types. People of one type, whom she called “guardians,” see the exercise of prowess as a key virtue. Although they are willing to trade when necessary, guardians do not view trade as an especially virtuous activity. They admire vengeance, even when it is costly, and skill in deceit as means of achieving an end. 

The second type, whom Jacobs called “traders,” have a different set of virtues. They value efficiency, novelty, industriousness and thrift. They prefer voluntary agreements to achieve their ends. They place a high value on respect for contracts and on honesty. They are not completely unwilling to use force, but they see it as a regrettable necessity and use it only as a last resort.

Jacobs maintained that a healthy society needs a balance between guardians and traders. Guardians, a term she borrowed from Plato, are well suited for roles as government leaders, soldiers and police, although, ironically, some of their values are shared by street gangs and organized crime. Traders are well adapted to roles in industry, commerce and agriculture. Their devotion to innovation and hard work, combined with cooperation to achieve mutual gains, promote not only their own prosperity, but that of the whole society. When the balance is right, the guardians provide the security and rule of law that traders need to achieve efficiency and innovation.

I read Jacobs’ book while living in Yeltsin’s Russia. It became clear to me that that the Soviet experience had left that country with a fundamental imbalance: too many guardians, too few traders. When perestroika and shock therapy came along, they allowed people imbued with a Soviet-era guardian mentality to become biznessmen, a perverse hybrid of the two cultural types. (There were a few biznessmenki, too, like Yelena Baturina, the wife of Moscow’s mayor, who used her connections to become the richest woman in Russia.) The biznessmen enthusiastically applied their virtues of prowess, vengeance and deceit to the emerging market economy. The resulting carnival of fraud, corruption, extortion and violent settlement of business disputes poisoned any enthusiasm ordinary Russians might have had for a market economy.

A few words of caution: Cultural traits are not uniform within any society. A mixture of guardians, traders and perverse hybrids can be found anywhere. Most of our own Russian students of the 1990s went on to become successful, law-abiding entrepreneurs and business professionals, although more than a few found it easier to make their careers as emigres in the West than at home in Russia. Also, from what I read and hear at a distance, it appears that some of the more flamboyantly criminal features of Yeltsin-era business life have faded. Some say that is because Putin is determined to let neither Gucci-wearing oligarchs nor leather-jacketed mafiosi establish themselves as competing centers of power. Many traders survive in the quieter corners of the Russia economy, but clearly the guardians rule.

Looking back, I remember speaking at a conference in Moscow that was sponsored by the Cato Institute in the late summer of 1990. The topic was economic reform. The 500-day plan, which had just come out, was greeted with enthusiasm by both Western and Russian conference participants. I haven’t kept the notes for my talk. But as best as I can remember, I was as hopeful as the others about the prospects for reform. Too hopeful. 

By that time, we understood some of the more obvious flaws of perestroika, but we didn’t see how naïve it was to think the 500-day plan, or anything like it, would have fixed them. The debacle of privatization without property rights and commerce without the rule of law still lay ahead. The Russians invited to that 1990 conference turned out, sadly, to be an unrepresentative sample with above-average enthusiasm for markets and liberal democracy. Only later did it become clear that perestroika had failed — and that because of missing pieces, a lack of an institutional foundation, and an inhospitable cultural context, it never had a chance.

main topic: Region: Russia