Project Capitalism

From his 20th-floor office in the glass skyscraper that just two years ago housed the headquarters of Comecon, the Soviet bloc's trade organization, Jean Foglizzo looks out over the Moscow River and the southwest side of Russia's capital. For Foglizzo, 47, the first-ever representative of the International Monetary Fund in Russia, the commanding view is a fine vantage point for pondering his task: the most difficult economic restructuring of all time. "We are facing chaos in the Biblical sense," he says. "There is nothing, and you have to organize. You have more than seven days to do it, but not that much."

That's not too much of an exaggeration. The IMF is facing the biggest challenge of its history. After nearly five decades of grappling with Latin America, Africa, and Eastern Europe, it is now helping the world's largest centrally planned economy build its own version of capitalism. Never before has the IMF dealt with a touchy former superpower with its own massive army and a still-ominous nuclear arsenal. Nor has it ever faced building the financial structure of a huge country from the ground up.

True, more immediate crises, such as the West's economic slump and turmoil in the currency markets, face the IMF and the World Bank when they meet in Washington Sept. 22-24. But the incredible changes Russia and the other former Soviet republics are undergoing will continue confronting the West for years.

PAINFUL PROCESS. The job the IMF has been given--managing $24 billion in aid the West has pledged for Russia--may well be Mission Impossible. The IMF must prod the country to undergo the pain of economic restructuring without producing a social explosion or a xenophobic backlash that could usher a new dictator to power. If the IMF succeeds, Russia and other former Soviet republics will finally become real members of the world economic community. If the IMF fails, a hostile Russia could again become the West's biggest nightmare.

The future course will soon be determined by a political fight now raging in Moscow--a battle over which the IMF has little influence. Russians are fiercely debating the speed and path of reform. At the debate's heart: what shape a new, capitalist Russia should take and how big a role the government should play.

On one side are the so-called Chicago boys, a group of young Russian economists in their 30s and 40s led by Acting Prime Minister Yegor T. Gaidar. Named after the University of Chicago-trained advisers who engineered Chile's economic revival, they want to keep money tight to control inflation while taking government out of the economy. To break up the old Soviet management structure once and for all, they urge fast and massive privatization of state assets.

On the other side are powerful industrial managers who flourished when the Communist Party ran the economy. Led by Arkady Volsky, head of the powerful Russian Union of Industrialists & Entrepreneurs, they want government to manage the transition to capitalism. They favor a gradual approach to privatization to save enterprises from bankruptcy while also preserving their own jobs. Their preferred economic models are South Korea, Japan, or Germany, with more central guidance and big, interlocking companies and banks.

In the midst of that fray, the IMF must complete a reform blueprint setting specific targets that the Russian government must meet or face a cutoff of Western money. Russia must make such commitments if it wants to get approximately $3 billion in assistance next year. The IMF also will judge how well Russia has met goals set in the interim agreement, signed in July, before it received a first, $1 billion aid infusion. At that time, the country agreed to push its monthly inflation rate under 10% and its budget deficit to 5% of gross domestic product by yearend. "We want Russia to establish a track record," says Foglizzo.

MEGANUMBERS. But already, there's a cloud over whether Boris Yeltsin's government can meet any kind of target at all. Take prices, which rose 15 times at the beginning of the year, then stabilized, and now seem to be taking off again. Official inflation rates ran at 8% a month in August but may be 15% for September, says a Finance Ministry economist.

That works out to 435% a year. But others claim that inflation rates are actually much higher. Take a look at Moscow food stores. Tomatoes are now going for 30 rubles a kilo--up from 22 last month. Roast beef is running at 111 rubles, up from 92, and sausage is going for 322, up from 265. A weary-looking customer carrying a cloth shopping bag shrugs: "We're accustomed to inflation. We're accustomed to everything."

Some economists now predict annual inflation rates of 1,500% to 2,200% by yearend if strict monetary policies are not reintroduced. Indeed, with industrialists gaining in influence, this threat of hyperinflation is becoming more real. Their camp got a big boost in mid-July when Viktor Geraschenko, the former head of the Soviet State Bank, took over as acting chairman of the Russian Central Bank. He was appointed by parliamentary leaders who wanted more credit for industry. His predecessor, Georgy Matyukhin, who kept money tight, was forced to step down.

Geraschenko moved quickly. Since his appointment, he has issued an estimated 850 billion rubles, or $4.3 billion, in new credits, mostly targeted to bail out state enterprises that are sagging under massive debts. Gaidar, who has no direct authority over the Central Bank, managed to stop him from taking the most inflationary step--distributing 1 trillion rubles in cash and also writing off more than 1.5 trillion rubles' worth of debts that have built up between enterprises since prices were liberalized in January.

Geraschenko's humming printing presses are sparking a war over monetary policy. The ruble's value has collapsed by 40% since he took up his post. That's sure to stir up trouble when the Russian Parliament returns to work Sept. 22 and takes up the confirmation of Geraschenko's appointment. Yeltsin may pressure Geraschenko to change his monetary policy to stave off hyperinflation. He may even use his powers to rule by decree to oust the banker.

CROSS FIRE. Hyperinflation would destroy any gains that have been made in returning some purchasing power to the ruble, sending its value from 200 to a dollar to as low as 1,000 by next spring. More credits for industry would only temporarily stave off the fall in production, already 15% this year. The IMF deal for 1993 would be out the window.

While the IMF is caught in the cross fire over monetary policy, it is appalled over the primitive state of the existing financial and banking system. There's no government debt market, and the Central Bank has practically no instruments to enforce monetary policies. The Russian banking system is, in fact, an odd combination of former state lenders and upstarts built on money from black-market deals. With both types, it can take up to four weeks just to pay a bill.

One hint of progress is that the IMF has persuaded the Central Bank to improve the way it trades the ruble. Now, at twice-weekly sessions of the Moscow Interbank Currency Exchange, a paneled conference room at the Central Bank, trading among 55 banks sets the ruble's value. Another innovation is an interbank credit auction--a step toward building a financial market that sets a market interest rate. Every Wednesday, in the palace of the former Young Communist organization, an auctioneer stands before about 25 bank representatives in an almost empty auditorium. Gavel in hand, he hawks three-month loans of 20 million rubles or more at interest rates of 85% and up.

The American-Russian Banking Forum, an industry-government organization led by New York Federal Reserve Bank President E. Gerald Corrigan, is now trying to take the process into the 20th century by helping the Russians set up a rudimentary system to relay funds among banks by wire.

A better banking system is clearly in the interest of industrial managers, so they do little to block its development. What concerns them far more is privatization--the most important economic reform. They're especially worried about Yeltsin's mass sell-off program due to begin Oct. 1. The first step will be to issue vouchers to each of Russia's 148 million citizens. Investors will be able to sell the vouchers for cash or trade them for shares of newly privatized companies. The government hopes this will make economic reform irreversible by creating a middle class of shareowners.

Yeltsin aims to sell off 7,000 enterprises, or about 40% of industry, by the end of next year. In subsequent years, parts of the defense, oil, transport, and other monopolies banned from privatization this year would be put on the block. But privatization of small state-owned shops and restaurants is already going more slowly than expected, because many hesitate to risk their own money. Nonetheless, as long as Yeltsin does not cave in to the industrialists, a large chunk of industrial assets will begin to change hands over the next year. Even if far less than 40% is successfully sold by yearend 1993, a critical industrial shakeup should begin.

TEST OF WILL. Boris Yeltsin's government has pushed through more economic changes in the past nine months than a previous reformer--former Soviet President Mikhail Gorbachev--accomplished in five years. Most prices are liberalized. The ruble freely trades. A sell-off of state assets is getting under way.

The price of those moves, so far, is a collapse in the living standards of most Russian people. Whether Yeltsin can push his people far enough to please the IMF depends on his political strength, the endurance of the Russians, and, perhaps, the willingness of the IMF to compromise. It may be a task of Biblical difficulty. But if the IMF can summon Russian capitalism out of chaos, it will have truly proven the power of its free-market gospel.

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