Socialism Betrayed: Behind the Collapse of the Soviet Union

3. The Second Economy

The USSR’s shadow economy and the rest of its underground—misappropriation, corruption, organized crime—in the end contributed to the system’s collapse….[It] culminated in subornation of much of the formal apparatus of rule and control within the party-state hierarchy and in the severance or fraying of vertical lines of communication and authority, as it reoriented the nomenklatura’s private (or group) interests and loyalties toward the new, nonofficial sources of wealth and power—with dire consequences for empire, union, system, and economy. —Gregory Grossman152

The emergence and rapid growth of the second economy since the mid-1960s contributed to the deepening economic crisis of the late 1980s and the ultimate disintegration of the Soviet economy. —Vladimir G. Treml and Michael Alexeev153

The shadow economy alleviates shortages in the consumer markets and, at the same time, provokes their growth….The presence of shortages produces the growth of organized criminal economic groups and the latter lead to socio-economic and political destabilization of the society.-–Tatiana Koriagina154

What accounted for the persistence of two political tendencies within the CPSU? To some extent, of course, ideas have a life of their own and because of tradition and sentiments persist after the evaporation of their original purpose. More to the point, as long as capitalism and socialism existed side by side, ideas from one system were bound to penetrate the other. In the 1970s and 1980s, the extreme free market ideas of Milton Friedman of the University of Chicago and Jeffrey Sachs of Harvard enjoyed a worldwide resurgence, and the leaders of such diverse countries as Chile, Bolivia, Argentina, Britain, and Poland adopted them as a cure-all for inflation and stagnation. At the same time, some in the Soviet Union became attracted to these ideas. Such free market thinking within the Soviet Union dovetailed with the social democratic trend that had long existed.

In order for such ideas to persist in Soviet society and in the Communist Party, more than tradition, sentiment and external forces must have been at work. A section or stratum in Soviet society must have had more than an intellectual stake in those ideas. For the early decades of Soviet history, the class with such a stake was the peasantry, supplemented as well by those from a peasant background and former capitalists, so-called NEP-men, who hoped to regain their pre-revolutionary status. As the Soviet Union transformed the peasants into agricultural workers on state farms and collective farms and created a huge working class by industrializing, the peasant basis for quasi-capitalist ideas declined. The following figures reflected this transformation: the peasantry represented 83 percent of the population in 1926, but 20 percent in 1975. The workers in industry, building and transportation represented 5 million people in 1926 and 62 million in 1975.155

After 1953, a new economic basis for bourgeois ideas began growing within socialism. This basis was the population engaged in private economic activity for personal gain, in a so-called second economy that existed beside the first, socialist economy. At first, the very existence of a second economy was disguised by its interpenetration of the first or socialized economy. The second economy usually did not involve a separate class of people, but rather workers and farmers in the primary economy who spent time making money on the side in legal or illegal, private activity. Increasingly, however, in the post-war years, the second economy embraced more and more people and accounted for more and more of their income and in effect re-created a petty bourgeois stratum. The most corrosive product of the Khrushchev and Brezhnev eras resided precisely in this second, private economy and the stratum that benefited from it. Private economic activity never totally disappeared under socialism, but after being restrained under Stalin, it emerged with new vitality under Khrushchev, flourished under Brezhnev, and in many respects replaced the primary socialist economy under Gorbachev and Yeltsin. The second economy had profound and widespread negative effects on Soviet socialism. It created, or re-created, private sources of income and systems of distribution and production. It led to widespread corruption and criminality. It spawned ideas and sentiments to justify private enterprise. It became a source of funds for critics and opponents of the system. It provided a material basis for social democratic ideas.

Before detailing the consequences of the second economy, it is first necessary to define it, discuss its treatment in socialist literature, describe its various manifestations, recount its history, and estimate its size. We define the second economy as economic activity for private gain whether legal or illegal. There are two good reasons for including both legal and illegal private moneymaking. First, this is the definition used by Gregory Grossman and other students of the second economy, and hence using a consistent definition will reduce confusion when referring to their studies.156 Second, private economic activity fosters relations, values, and ideas that are different from collective economic activity. As such, it can pose a danger to socialism. The Soviets recognized this during the NEP period, as have the Cubans in relationship to the foreign investment and private activity allowed during the so-called Special Period. Because of this, widespread private economic activity, whether it is legal or illegal, can pose a problem for socialism.

Including legal and illegal activity in the definition does not imply, however, that they were equally dangerous. Because the socialized sector could not realistically assume responsibility for every small repair, service, and petty exchange of goods, private economic activity occurred in every socialist country. Kept within bounds, private activity occupied a natural and unthreatening place. This was the case with most legal economic activity in the Soviet Union. Between 1950 and 1985, legal private economic activity actually diminished in size relative to the socialized sector. The opposite was true of illegal activity. As we shall discuss, it corroded socialism in a number of ways, not least of which was the way it often compromised legal activity. Moreover, in the period from 1950 to 1980, illegal, private economic activity expanded greatly.

The illegal aspect of the second economy, or black market activity, did not, of course, occur only in socialist societies. Under capitalism, illegal economic activity took such forms as prostitution, working off the books to avoid taxes, and selling outlawed drugs and bootleg liquor. During Prohibition, American black market activity assumed large dimensions in the sale of illegal alcohol and during World War II in the sale of tires, sugar and other rationed products. Because socialism prohibited a greater range of private economic activity than did capitalism, black market activity represented a greater potential problem. Moreover, since socialist revolutions have occurred in economically developing societies where the needs of capital investment and national security required limiting the investment in consumer goods, the demand for some consumer goods invariably exceeded the supply. This in turn led to a system of distribution that required lines and/or ration coupons. The greater the number of proscribed economic activities and the greater the shortage of consumer goods, the greater was the temptation to circumvent the law. To counter this temptation, socialist societies have used vigorous educational campaigns and rigorous law enforcement.

Even though black markets have been endemic to undeveloped socialism, the existence and growth of a second economy in the Soviet Union may come as a surprise to Marxists and others. If so, the surprise may be due to the failure of economists to give the second economy proper recognition. Popular Marxist treatments of the Soviet economy contained virtually no discussion of the second economy. In Soviet Economic Development Since 1917, published in 1948 and enlarged and revised in 1966, the British Marxist, Maurice Dobb, said nothing about legal or illegal, private enterprise, aside from two references to the black market in the 1920s.157 Until 1980, with the exception of the Soviet economist, T. I. Koriagina, most Soviet economists ignored the second economy.158 No discussion of it occurred in such standard Soviet texts as L. Leontyev, Political Economy: A Condensed Course; G. A. Kozlov, editor, Political Economy: Socialism; G. S. Sarkisyants, editor, Soviet Economy: Results and Prospects; P. I. Nikitin, The Fundamentals of Political Economy and Yuri Popov, Essays in Political Economy.159 In his last discussion of the economic problems of the Soviet Union published in 1952, Joseph Stalin referred to the persistence of private commodity production in the countryside but made no mention of the danger of illegal, private enterprise (probably because of its negligible size at that time).160 Similarly, in a pamphlet on the Soviet economy published in 1961, the American Marxist economist, Victor Perlo, devoted a short section to the black market in foreign currency but clearly saw this as a temporary and limited phenomenon. Perlo quoted Anastas Mikoyan, the First Deputy Premier, who called the black market “a handful of scum on the surface or our society,” that represented “no trend among our people.”161 Even as late as 1980, in a book on the Soviet economy with a frank and informative discussion of its problems, Victor and Ellen Perlo had no discussion of a second economy.162

Though most Marxist economists, and for that matter most bourgeois economists, ignored private economic activity within socialism, some American, Western European, and Soviet scholars, as well as the CIA, became alert to this phenomenon in the 1970s and studied it thereafter. Indeed, the Soviet second economy spawned a cottage industry of academic work in the United States. In 1985, Gregory Grossman of the University of California—Berkeley and Vladimir Treml of Duke University began publishing the Berkeley-Duke Occasional Papers on the Second Economy in the USSR. Between 1985 and 1993, the Berkeley-Duke project published fifty-one papers by twenty-six authors on this topic. Over half of these papers dealt with the Brezhnev era and many were based on surveys administered to 1,061 households that had left the Soviet Union between 1971 and 1982.163 In addition, the Berkeley-Duke project compiled a bibliography of 269 studies in major Western languages on the second economy in the USSR and Eastern Europe.164 For a number of scholars, the second economy loomed large.

In terms of the law, Soviet socialism prohibited most private economic activity. The law proscribed the employment of others (except for household help), the selling or reselling of goods for profit, trading with foreigners, possessing foreign currency, and plying most crafts and trade for private gain. Consequently, the legal exploitation of labor did not exist. Nevertheless, within strict legal boundaries, Soviet socialism permitted certain kinds of private economic activity. A substantial amount of private gainful work remained legal, even though it sometimes shaded into illegal activity. Soviet law permitted private agricultural plots limited to three-quarters of an acre for those employed on collective or state farms and even for some people not so employed. In 1974, according to some estimates, private plots accounted for almost a third of all hours expended on agriculture and almost a tenth of total man-hours in the whole economy. The private plots also accounted for more than a fourth of Soviet agricultural output. To sell the products of private plots, so-called collective farm markets developed. Though legal, this growing and selling invited illegal abuses such as the diversion of socialized property (seeds, fertilizer, water, fodder, equipment, and transportation) to support the private plots and bring the produce to market.165

Soviet law also permitted private housing. According to Grossman, in the mid-1970s half of the Soviet population, and a quarter of the urban population, still lived in private housing. Legal, private housing often involved some illegality—subletting for illegal rent, the hiring of illegal construction or repair help, the diversion of building materials from the socialized sector, the bribery of officials and so forth. In other sectors, such professionals as doctors, dentists, teachers, and tutors could legally sell their services. Craftsmen could engage in home repair in rural areas, and certain craftsmen could work at a few limited and unimportant trades. Private prospectors could mine, providing they sold their ore to the state. The law also permitted the sale of used personal items.166 By itself, legal private activity did not present a big problem. It steadily declined as a percentage of GNP until Gorbachev. Grossman estimated that it represented 22 percent of GNP in 1950 and 10 percent in 1977. Of course, Soviet GNP had grown greatly between 1950 and 1977, so legal private economic activity remained significant.167

After 1953, illegal money-making presented a much greater problem than legal activity. Illegal activity eventually assumed an astounding array of forms, eventually penetrated all aspects of Soviet life, and was limited only by the boundaries of human ingenuity. The most common form of criminal economic activity took the form of stealing from the state, that is, from work places and public organizations. Grossman said, “The peasant steals fodder from the kolkhoz to maintain his animals, the worker steals materials and tools with which to ply his trade ‘on the side,’ the physician steals medicines, the driver steals gasoline and the use of the official car to operate an unofficial taxi.” Variations on this theme included the diversion of goods into the private market by truck drivers and the use of state resources to build a summerhouse, renovate an apartment, or repair a car.168

At times stealing from the state occurred in wholesale and systematic ways. This included “well-organized gangs of criminals capable of pulling off daring and large-scale feats.” It included the practices of managers reporting the loss or spoilage of goods in order to divert them to the black market. It embraced a common practice in state stores of salespeople and managers laying aside rare goods in order to secure tips from favored customers or to sell them in the black market. Consumer durable goods like automobiles for which waiting lists existed presented “considerable opportunity for graft,” as well as for “speculation,” that is, for resale at higher prices.169

Repairs, services and even production constituted other avenues of illegal gain. This included household repair, automotive repair, sewing and tailoring, moving furniture, and building private dwellings. This work, illegal in itself, often involved material and time stolen from regular employment. Private production even took the form of full-blown, underground capitalists in the full sense of the word—investing capital, organizing production on a large scale, hiring and exploiting workers, and selling commodities in the black market. According to Grossman, the products usually consisted of consumer goods—“garments, footwear, household articles, knickknacks, etc.” Moreover, “large-scale private operations such as these commonly take place behind the protective façade of a state-owned factory or a collective farm—naturally, with appropriate payoffs to those who provide the cover.”170 Konstantin Simis, a prominent Soviet lawyer who represented many underground businessmen in the 1970s, subsequently described his experiences in a book subtitled, The Secret World of Soviet Capitalism. Simis said “a network of private factories is spread across the whole country,” tens of thousands of them, manufacturing “knitwear, shoes, sunglasses, recording of Western popular music, handbags, and many other goods.” The owners ranged from the owners of “a single workshop” to “multimillion-ruble family clans that own dozens of factories.”171

Taken together, a variety of monographs provided a kaleidoscopic view of the second economy during the Brezhnev years. Private food vendors sold goods valued at 35.5 billion rubles a year.172 Soviet barbers in state-owned barbershops customarily collected “very high” tips “in effect transporting the transaction into the SE [second economy].”173 The home production of grape and fruit wine and beer, the illegal resale of state beverages, and the sale of stolen ethanol accounted for as much as 2.2 percent of the Gross Domestic Product in 1979.174 By the late 1970s, the black market sale of gasoline by drivers of state-owned cars and trucks allegedly accounted for between 33 and 65 percent of all gasoline sales in urban areas.175 Privately rented housing brought illegal landlords an estimated 1.5 million rubles in 1977.176 Tips, bribes, and payments for private services (such as religious ceremonies) associated with funerals involved more than four times the amount of money spent on official funerals.177 Prostitution and illegal drug sales constituted another part of the second economy.178

The researcher, Marina Kurkchiyan, provided a detailed description of the way the second economy worked in the transportation system of Soviet Armenia, which she regarded as “typical.” Even though a bus driver made more than average wages, he made more money from his customers than from his state wages. The driver collected fares directly from customers and turned over only part of the receipts to the state. Out of his own pocket, the driver paid for cleaning, parts, maintenance and fuel. In the end, a bus driver’s total income, after expenses, amounted to two to three times the size of his official state salary. Kurkchiyan concluded that by the end of the 1980s, partly as a result of Gorbachev’s policies and economic hardships, “everybody” was engaged in the second economy, and it had become “the dominant force in the allocation of goods and services.”179

How big was the second economy? All kinds of methodological problems bedevil an attempt to measure its size and growth. Experts have challenged each other’s figures, as well as official Soviet figures issued after 1989. Nonetheless, all experts agreed that for over thirty years the second economy grew at an increasing rate. For certain regions of Russia and the Ukraine, Vladimir G. Treml and Michael Alexeev analyzed the relationship between earned, legal income on the one hand and the amounts spent on goods and services or saved on the other hand. They discovered that between 1965 and 1989 the correlation between income and expenditures/savings became weaker and weaker until it disappeared. In other words, the total amount of money spent or saved increasingly exceeded the amount of income earned legally. They surmised that illegal income accounted for the difference. They provided no figures for the size and growth of the second economy, but concluded that “the second economy was growing rapidly between 1965 and 1985.”180 Another researcher, Byung-Yeon Kim, using Soviet statistics that became available after 1991, similarly concluded, “The absolute size of the informal economy had indeed increased from 1969 to 1990.”181

The leading Soviet specialist on the second economy, T. I. Koriagina of the Economic Research Institute of the USSR State Planning Commission (which favored legalizing at least some of the second economy), also attempted to measure the growth of the second economy. In one study, Koriagina used a methodology similar to Treml and Alexeev’s. She compared the amount of legally, earned income per month with the total amount spent and saved. Her figures likewise showed not only a large size for the second economy, but also a steady expansion.

The Growth of the Monthly Salary of Workers

Compared with the Growth of the Total Size

of Money Spent on Goods and Services

and Saved in Savings Banks182

1960

1970

1975

1980

1985

1988

Monthly Salary in Billions of Rubles

80.6

122

145.8

168.9

190.1

219.8

Percentage of 1960

152

180

210

236

273

Total Spent and Saved in Billions of Rubles

103.2

223.2

329.9

464.6

590

718.4

Percentage of 1960

216

320

450

572

696

Using statistics for the whole Soviet economy, Koriagina estimated that the second economy was growing even faster than in the selected areas above. Moreover, the second economy was growing faster than the first economy. According to Koriagina, official national income and the value of retail goods and services had increased four or five times between early 1960s and late 1980s, while the second economy had grown eighteen times.183

Though the second economy grew, its actual size is difficult to measure. Both American and Soviet economists of all ideological viewpoints admit it is hard to estimate the size of the second economy of the USSR in relation to its total economy. One difficulty involves varying definitions of the “informal economy,” the “shadow economy,” the “second economy,” the “private economy,” the “underground economy,” the “black market economy,” and so forth. For some scholars, the important measure is legal and illegal, private economic activity, for others the measure is only illegal activity. Even if a definition could be agreed upon, all estimates involve assumptions that may be more or less realistic. One economist has compared the measurement of the Soviet second economy to the determination by physicists of Pluto’s orbit by studying the oscillation of its planetary neighbors. All of these caveats aside, the estimates are nonetheless highly revealing.

Based on macroeconomic figures, Koriagina estimated that the annual value of illegal goods and services grew from approximately 5 billion rubles in the early 1960s to 90 billion rubles in the late 1980s. If the value of the Soviet national income (net material product) in current prices was 145 billion rubles in 1960, 422 rubles in 1988, and 701 billion rubles in 1990, then the value of second economy was approximately 3.4 percent of national income in 1960, 20 percent in 1988 and 12.8 percent in 1990.184 (By 1990, some previously illegal activity was now legal.) In 1988, Koriagina estimated that the total accumulated illegally attained personal wealth amounted to 200-240 billion rubles, or 20-25 percent of all personal wealth.185

Koriagina’s figures represented only income from illegal economic activity. To get a sense of the total size of private economic activity, one would have to add to her figures the size of legal private activity. In other words, the size of all private activity would presumably be at least 10 percentage points higher for a total of 30 per cent in 1988 or 30 to 35 percent of accumulated personal wealth in 1988.

If such adjustments to Koriagina’s figures were made, her figures would be comparable to those of the leading American authority, Gregory Grossman, whose estimates came from microeconomic data gleaned from interviews with over a thousand Soviet emigrants. Grossman found that in the late 1970s the urban population (which constituted 62 percent of the total population) earned about 30 percent of its total income from nonofficial sources, that is to say, from either legal or illegal, private activity.186

Research using the Soviet archives after 1991 has reinforced these estimates of the size of the second economy. In 2003, Byung-Yeon Kim, an economist at the University of Warwick, England, estimated the size of the second economy on the basis of official Soviet Family Budget Survey Data (FBSD). Between 1969 and 1990, the Soviet government collected data from a sample of 62,000 to 90,000 families on income and expenditures. Respondents reported both official income and “informal” income and expenditures, that is to say, income (not necessarily illegal) derived from private activity and expenditures in private transactions. Such informal income included income in kind, income from the sale of agricultural animals and products, and income from individuals. Informal expenditures included the consumption of self-produced goods and money paid to individuals for goods. Kim noted that one would naturally expect these respondents to be less willing to reveal income and expenditures involving illegal activity than the émigré respondents used by Grossman. At the same time, it is likely that Grossman’s respondents were more disaffected with socialism and hence more involved in private undertakings and were more apt to exaggerate their importance than Soviet citizens who did not emigrate. In any event, one would expect estimates of the second economy based on Kim’s data to be smaller than Grossman’s. This indeed was the case. Kim estimated total income from the second economy as 16 percent, while Grossman estimated total income from the second economy as 28-33 percent. Correcting for the possible reporting bias on both sides would mean the true figure was probably some where in the middle.187

In another study, Grossman found that the second economy assumed larger dimensions in areas on the periphery of the Soviet Union than in Russia:

Grossman’s Estimates of the

Size of the Soviet Second Economy

Compared to the First Economy

Brezhnev Era (1977)188

Russia (RSFSR)

29.6%

Belorussia, Moldavia, and Ukraine

40.2%

Armenia (ethnic Armenians only)

64.1%

‘Europeans’ residing in Transcaucasia or Central Asia

49.7%

Grossman noted that while 30 percent of urban income derived from the second economy by the late 70s, the second economy had relatively greater strength in the south (the Northern Caucasus regions and the Transcaucasian republics of Georgia, Armenia, and Azerbaijan, and Central Asia) than in the north (central Russia, the Baltics, and Siberia). It was also large in certain border regions like Odessa and in territory joined to the USSR after 1917, such as Moldavia, the Ukraine and Belarus. Because of regional and ethnic variations, in some areas the people averaged as much income from illegal, private activity as from regular, legal employment. In some areas, people averaged twice as much from illegal as legal sources.189 Kim’s study based on Family Budget Survey Data confirmed the conclusions of Grossman and others that the second economy was smallest in Russia, Estonia, and Latvia and largest in Uzbekistan, Georgia, Azerbaijan, Kirghizstan, Tadzhikstan, and Armenia.190

How many people did the second economy involve? Most scholars agreed that by the 1980s the second economy reached into every nook and cranny of the society and touched almost everyone. In a reference to private money-making, Brezhnev himself remarked, “No one lives on wages alone.”191 What was important, however, was not petty pilfering or the purchase of black market goods, but the emergence of a layer of people who depended upon private activity for all or a substantial portion of their income. Some people became exceedingly wealthy and acquired the name, the “Brezhnev new rich. ”192 Such people could rightly be considered a nascent class of petty bourgeoisie.

Some scholars have attempted to assign a number or percentage to those involved in the second economy, particularly to those who derived a substantial income from illegal, private enterprise. According to Vladimir Treml, the underground, or illegal, economy in the late 1970s involved 10 to 12 percent of the labor force.193 Koriagina estimated that the number of people involved in the illegal parts of the second economy grew from less than 8 million people in the early 1960s to 17-20 million (6 to 7.6 percent) in 1974 to about 30 million (roughly 12 percent of the population) in 1989.194 Grossman summed up the extent of the second economy in the mid-1980s:

And so during the last three decades of the Soviet era, illegal economic activity penetrated into every sector and chink of the economy; assumed every conceivable shape and form; and operated on a scale ranging from minimal or modest for the mass to the substantial for the many, to the lavish and gigantic, as well as elaborately organized, for some.195

The large amount of wheeling and dealing that occurred outside the official socialized economy contributed mightily to the Soviet downfall. First, it created or exacerbated the economic and political problems the Soviet Union faced in the 1980s that gave rise to the need for reform. Secondly, it provided an economic basis for the ideas and policies that Gorbachev eventually adopted that doomed Soviet socialism.

On the surface, it might have seemed that the second economy served a benign, even stabilizing, function. The second economy met some consumer appetites not satisfied by the first economy and thus drained off a certain amount of discontent over the quantity and quality of socialist goods. It also offered a remunerative outlet for individual initiative that otherwise might have been turned directly against the system.

Perhaps such beliefs accounted for the failure of Soviet authorities to pay much attention to the second economy and to crack down on its crimes. As noted earlier, Soviet economic texts ignored the second economy. Valery Rutgaizer, who headed Gosplan’s Scientific and Research Economic Institute (where Koriagina did her studies) said the first publications on the second economy in the Soviet Union did not appear until the beginning of the 1980s.196 More importantly, Soviet authorities made no concerted effort to suppress it. Grossman said:

By 1960 the Soviet shadow economy was already institutionally mature and of notable scope and size. In the early 1960s it was the target of a fierce campaign by Khrushchev to the point of reintroduction of the death penalty. In the event, this campaign, like all others against ‘economic crime’ before and since, did little to set back the steady, rapid rise of illicit activity. Instead the shadow economy spread out, grew, and prospered—under Brezhnev (1964-82), thanks to benign neglect if not tacit encouragement.197

An indication of this benign neglect appeared in the almost complete absence of prosecution of clearly illegal economic activity. In the early 1980s, crimes of speculation (buying to resell at a higher price) accounted for only 2 percent of all reported crimes. According to one estimate, the actual amount of speculation was a hundred times greater.198 In retrospect, few other mistakes of the Soviet leadership did so much harm as the indifference toward illegal economic activity.

Whatever small and temporary benefits Soviet society may have reaped from the second economy, the costs far outstripped them. Most important, the second economy damaged the first economy. If the second economy satisfied some consumer appetites and deflected some discontent, it simultaneously stimulated these appetites and increased discontent. Koriagina said, “The second economy alleviates shortages in consumer markets and at the same time, provokes their growth.” Shortages then encouraged even more criminal economic activity, and this led to the “socio-economic and political destabilization of the society.”199 Moreover, the larger the illegal economy became, the more it interfered with the performance of the legitimate economy. Since the second economy involved stealing time and material from the socialist sector, it impaired socialism’s efficiency. Alexeev said, “Diverting inputs and outputs to the black market must have lowered the official performance of at least some enterprises.”200 Furthermore, the second economy undermined economic planning. If an enterprise compensated for a misallocation of resources by resorting to informal purchases or trades, the planners had no reason to correct future allocations. By weakening or destroying the feedback mechanism, the second economy forced planners to “direct the Soviet economy with a highly distorted map of the economic situation.”201 Finally, private moneymaking increased income inequality and its attendant jealousies and resentments. In all of these ways, the second economy either caused or exacerbated the Soviet Union’s economic problems.

How did the second economy influence the Communist Party? In one word, the answer was corruption. Corruption of some cadres more than anything else explained why the Party that had rebuffed Bukharin and Khrushchev (though not without some damage) did not overcome Gorbachev. The peasantry that provided a class basis for Bukharin’s ideas did not require the corruption of the Party for its existence, but the entrepreneurs of the second economy did. Simply put, to exist and thrive, illegal producing and selling required the bribery of some Party and state officials, and the more organized and widespread this producing and selling became, the more corruption they required. Simis said, “No underground enterprise could be created without the venality of [some in] the state administration; it would not last a month.”202

In 1979, Grossman reported that corruption, namely the bribery of Soviet officials, was “extremely widespread” and reached “up and down nearly all levels of the formal hierarchy.” At the lowest level, in an actual case recounted by a former Soviet prosecutor, it might involve the director of a vegetable storage warehouse being forced “on pain of dismissal to pay regular graft to several of the Party and government chiefs of the given district.”203 At the highest levels, it led to scandals such as the so-called cotton fraud of the 1970s and early 1980s, in which top Party and government officials in Uzbekistan and elsewhere “boldly and deftly padded” the size of the cotton crop to harvest billions of rubles. In the process “thousands were bought off,” including Brezhnev’s son-in-law.204 The rackets varied by area: in Azerbaijan caviar, in Georgia wines and precious stones, in the Baltics fish, and in Kirghyzia meat, and invariably they required the corruption of the Party.205

Venality reached the highest levels of the Party. Frol Kozlov, Khrushchev’s right hand man, Deputy Premier and Secretary of the Central Committee, retired in disgrace after the authorities opened the safe of a deceased Leningrad official and discovered packages belonging to Kozlov that contained precious jewels and bundles of money. These were payoffs in part for Kozlov using his influence to stop the criminal prosecution of illegal businessmen.206 Eventually, corruption reached the very top. After Chernenko’s death in 1985, officials of the Central Committee found “desk drawers stuffed with banknotes. Banknotes also filled half of the General Secretary’s personal secret office safe.”207

Alexander Gurov, a top police official in the USSR, related the development of Party corruption from the time of Khrushchev to Gorbachev directly to the development of illegal economy and organized crime:

It [organized crime] was bound to happen as soon as our system opened up and that was in the so-called thaw of the 1960s when Nikita Khrushchev was in power….It was impossible to imagine powerful organized crime groups under Stalin…. What we got after that in our society was the moral code of the plunderer. And of course it was run totally in the interest of the [Party] bureaucracy. For example, we had a so-called trade mafia in Moscow with representatives in top Party bodies as early as 1974. If I or anyone else had tried to warn people about the danger of the shadow economy then, liberals would have laughed and the government would have called us crazy. But that was how it started. And the government allowed it to happen, for reasons that ought to make us think. It began under Khrushchev and developed under Brezhnev. But the Gorbachev era was the period in which organized crime really became powerful in our country.208

The political problems of the Communist Party were intimately related to the corruption. Even if the cause and effect were not all in one direction, low Party standards, ideological weakness, formalism, cynicism and other political weaknesses were intertwined with corruption. Corruption gave some Communist Party and state officials a material stake in private enterprise. These officials may not have been directly involved in private trade or production, but they were in fact engaging in their own form of illicit money grubbing.

If the second economy greatly contributed to the problems of Soviet socialism, it had an equally corrosive effect on the attempt to solve those problems. As bad as the problems were, they did not bring down socialism; Gorbachev did that, and his thinking increasingly reflected the interests of the second economy entrepreneurs. The course that Gorbachev followed after 1986 stemmed directly from the second economy in two respects. First, for all the reasons given above, the second economy had created and fed a great cynicism about the efficiency of socialism, the effectiveness of planning, and the integrity of the Communist Party. Increasingly, Gorbachev exploited and even fanned this cynicism, until it spun out of control. Secondly, by creating a nascent petty bourgeoisie, the second economy had created a stratum within socialism whose personal interests lay outside of socialism. It served as a ready-built constituency for Gorbachev’s pro-market and pro-private property policies.

Too often Party leaders underestimated this stratum’s ideological danger. Some even denied that such a danger existed. In this respect, the aforementioned Frol Kozlov rang the bell for complacent hypocrisy. At the very time Kozlov was secretly lining his pockets protecting would-be capitalists, he brazenly assured the Twenty-second Congress of the CPSU “that in Soviet society there no longer exists a social basis on which any opportunist trends could thrive in the party.”209

In the society at large, illegal, private moneymaking promoted petty bourgeois values and undermined socialist legitimacy. On the one hand, the underground economy served as a training ground for entrepreneurs, shaped a public consciousness favorable to markets, and “helped create a consensus for market reforms.”210 On the other hand, the underground economy and everything that went with it created what some called a “demoralization crisis.” The prevalence of illegal activities, pilfering, time-stealing, bribery, and corruption, the ubiquitous blat or the “economy of favours,”211 and the growing inequality undermined some people’s faith in the ultimate fairness of the system. The diversion of the highest quality goods into the black market and the shortages aggravated by the black market cast doubts on the system’s efficacy. The second economy thus cut two ways—it slashed at socialism’s worth, while it carved an altar for money. Grossman said, “The prevalence of economic illegalities and corruption casts doubt on the ability of the Soviet system to provide minimal material benefits to its population or to administer its own socialist economy according to its own principles and rules.” Meanwhile, “it elevates the power of money in society” to rival that of the governing Party.212

Some Communists who noticed the development of anti-socialist ideas and values within socialism did not go very far in diagnosing its origin or prescribing a solution. Georgy Shakhnazarov, later a key aide to Gorbachev, wrote a futurological essay in 1978 in which he warned of the growing “philistine, petty bourgeois mentality,” the true source of which was “the scrimmage for riches and the accompanying advantage.” Shakhnazarov noted that inequality and classes still existed and “so long as the problem [of classes] is not radically settled, relapses of petty bourgeois mentality are possible. And relapses mean epidemics, not isolated cases of the malaise, often affecting whole social groups.”213

If Shakhnazarov could point to a petty bourgeois mentality in the 1970s, by the early 1980s this mentality was crystallizing into interest groups with their own agendas. That is to say, the second economy began to serve as the material basis for social structures and ideologies at variance with socialism. One was the world of organized crime. Another was the world of “political dissidents, ethnic and religious activists, refuseniks, opters-out, non-conformist writers and artists, and samizdat publishers.” The second economy and the West furnished these alternative social structures “much material support, especially in the pre-Gorbachev years.” Inscribed on their banners was the petty bourgeois watchword—freedom: freedom to promulgate religion, freedom to emigrate, freedom not to work, freedom to make money, freedom to exploit others, freedom to write and publish anything. Historian S. Frederick Starr said, “Unsanctioned informal groups and networks sprang up in many fields. Tens of thousands of them were in existence by the mid-1980s, some founded only to provide voluntary services but others existing to influence public policy.” These groups did not arise to promote class struggle, sacrifice, civic virtue, or international working class solidarity. Rather, they promoted freedom, individualism and acquisitiveness, and as Starr noted, “All of this ferment began prior to Gorbachev’s rise to power in 1985.”214

A striking example was the organization, In Defense of Economic Freedom, formed in 1981 and led by V. Sokirko. In Defense of Economic Freedom waged an open campaign for the legalization of the second economy. In particular, it conducted agitation for the repeal of Article 153 of the Russian Soviet Penal Code that outlawed private entrepreneurial activity. The group appealed to the USSR Supreme Soviet’s Committee on Legal Affairs to abolish the article. The organization compiled the records of cases brought under this article and published a journal exposing what the editors regarded as unfair convictions. The group also conducted show trials based on actual cases, where the juries generally acquitted those whom the authorities had convicted. According to Valery Rutgaizer of Gosplan, In Defense of Economic Freedom’s campaign “managed to create an atmosphere of public censure of Article 153” even to the point of stopping prosecutions.215

Before Gorbachev came to power, the ideological influence of the second economy made itself apparent within the Communist Party and the Soviet government. Two distinct approaches toward the illegal economy developed in the early 1980s. One approach predominated in two research institutes that Andropov set up to study the second economy—one institute in the USSR Procurator’s Office and the other in the USSR Interior Ministry. For these two institutes, individual labor activity fell into one of two categories, that which was legal and beneficial to the society, and that which was illegal and resulted in unearned, illegitimate income. Both institutes viewed the latter, the “shadow economy,” as incompatible with socialism. Its growth had resulted from “legal shortcomings”—a failure to enforce the law. It needed to be combated by “stepping up control and monitoring of the individual labor activity.”216

The other approach found expression in Gosplan’s Scientific and Research Economic Institute headed by Valery Rutgaizer. This approach, which Gorbachev eventually embraced, viewed most of the shadow economy as legitimate and useful. This institute aimed at “transforming the economic system” so as to legalize much previously illegal, private economic activity. Early on the members of this institute argued for using leasing and cooperative arrangements to legitimate parts of the second economy, a course of action Gorbachev would follow. These arrangements became a way station on the road to privatization and marketization.217

In the early 1980s, as at other times in the past, the Communist Party faced a variety of economic, political and foreign policy problems. As in the past, some saw the way forward as involving some kind of accommodation with capitalism or incorporation of capitalist ideas. By the 1980s, however, this approach had acquired hidden reserves. Those reserves were embodied by the stealthy growth of a petty bourgeois stratum and a corrupt section of the Party and state that likewise favored a move toward capitalism, toward free markets, private property, free enterprise, and other bourgeois “freedoms.” In this sense, Gorbachev’s move to the right in 1987 and the subsequent unraveling of Soviet socialism can best be understood as the product of a conjunction of the historic Bukharin/Khrushchev tradition and the emerging petty bourgeois of the second economy.

However important the second economy was in providing a basis for bourgeois ideas, this stratum did not exist in isolation. It floated on a larger sea of potential discontent. The very success of socialism had created a vast urbanized and educated intelligentsia in the Soviet sense of white-collar, non-manual workers. Some of this intelligentsia felt disadvantaged by the wage equalization that had occurred since the 1950s. For example, doctors, teachers, engineers, and administrators typically earned less than skilled workers did. Moreover, increased travel and communication had made the intelligentsia aware that they enjoyed a lower standard of living than their counterparts in the West. By the 1980s, this intelligentsia, by the way, had a disproportionate influence at the top. At least half the members of the Communist Party, and an even greater proportion of leaders, came from this sector.218

In 2001, a member of the Central Committee of the Communist Party of the Russian Federation (CPRF), Victor Trushkov, offered an analysis of the Soviet collapse that complements the one presented here. Trushkov said that capitalist restoration in the Soviet Union remained a danger as long as “exploiters on a world level” continued to exist, but “external pressure” only became a mortal threat when forces developed “inside the socialist system” with “an interest in restoring capitalism.” To understand how such forces could develop, Trushkov said, one must appreciate that “the picture of Soviet society as a practically classless one in the 80s,” was “far from reality.”

Trushkov pointed to the development of two quasi-bourgeois strata. In the first place, “a system of small-scale retail trade,” emerged. This trade was “barely legal” and depended on the misuse of resources that belonged to the state. Nevertheless, “between the moonlighting bricklayers and taxidrivers and the sales of the product of smallholdings it meant that this retailing was relatively important.” In the second place, a “private wholesale trade, which existed in the form of a parallel economy” emerged. “Its economic power was even greater [than retail trade]….Some research workers state that its turnover was comparable to that of the state.” In 1987-88, when Gorbachev began legalizing this retail and wholesale trade, those active in these areas sought “political means of protecting their interests,” hence the pressure for even more marketization and privatization. These moves in turn began an erosion of the state sector. “When the Gorbachev-Yakovlev tandem started to introduce the bourgeois system,” Trushkov said, “an important part of the [state] apparatus discovered it had competitors in those acting in the already existing forms of private property and expressed the will to preserve its privileged status (the privileges of power) by themselves appropriating state property.”219 In these ways, the second economy and Gorbachev’s reform sparked a dialectic of socialist betrayal.