02 April 2015

Review, Janine Wedel, Collision and Collusion (2)

Janine Wedel, Collision and Collusion, Palgrave Macmillan (2001).

Common acronyms: Harvard Institute for International Development (HIID) United States Government (USG); Government of the Russian Federation (RFG) Russian Privatization Center (RPC); State Property Committee (GIK, in Russian)

(Part 1)

THE CHUBAIS CLAN

 
Anatoly Chubais
Here may be a good time to remind readers that I am not a specialist in Russia or its process of privatization. However, I was motivated to do some investigation into the chapter on Harvard's Institute for International Development (HIID), since this is such a momentous historical event. It implicates many of the top intellectuals of contemporary economics, including Anders Aslund, Andrei Shleifer, and Jeffrey Sachs; and the Harvard (Kennedy) School of Government. It stimulated a wave of mistrust of foreigners, and in particular, of the USA. At the same time, many of the winners in this scandal went on to become decisive actors in the political life of Russia.

So what really happened?


In Leningrad (later renamed St Petersburg), a reformist mayor named Anatoly Sobchak formed a group of supporters, deputies, and advisers that Janine Wedel calls the "Chubais Clan" after its key national-level principal, Anatoly Chubais.1 A startlingly large number of major oligarchs and national officials in Russia would come from St. Peterburg and be linked to this clan; other authors have linked Vladimir Putin to the Chubais Clan, although he (naturally) denied any contacts with Anatoly Chubais personally.

The Chubais Clan, according to Wedel, was uniquely capable of influencing the Russian government, to the point that the Russian state was practically a projection of the Clan's intent (p.101; also, Wedel, "Clans, Cliques, and Captured States"--2001). For the record, it is true that Vice-President Al Gore had a close working relationship to PM Chernomyrdin and Deputy-PM Anatoly Chubais, and this has been used a reproach against the Clinton Administration generally; once again, US leadership allowed itself to become the best friends of a wildly unpopular head of state.

From the beginning, Russian authorities sought rapid privatization of the economy. Wedel mentions legislation passed by the State Duma in June 1991, and again (after the failed coup) in 1992. Wedel mentions the 1992 legislation was "structured to prevent corruption" (p.137) but makes no mention of how. Chubais's program encouraged the accumulation of vouchers, but Wedel fails to explain how this was so, and how it permitted huge fortunes to be made.2 In fact, this is a constant frustration of the book: while Wedel is eternally horrified by the management structure that administered privatization, she never explains the specific outcomes.

Chubais and his American interlocutors were both members of the Russian Privatisation Center (RPC), and serving on/consultants to the Russian State Property Committee (GKI)3; Maxim Boycko, a close confidant of Chubais, acted as his consigliere in both organizations. Wedel (correctly, in my view) recognizes this as a severe conflict of interest.4 A major preoccupation of Western aid to CEE generally was accountability; aid programs were often designed to bypass the government since it was expected to use aid to preserve its (economically) unsustainable state-owned enterprises, etc. In Russia, the system broke down entirely, and American aid officials colluded openly with Russian officials to manage both the disposal of state assets and the delivery of Western aid to institutions. The assistance being delivered was overwhelmingly technical assistance in the creation of financial institutions and markets; but the same set of mutual promoters (from Harvard and St Petersburg) were creating, implementing, and reviewing all the proposals; and one of these entities--the RPC--was private.

LOANS FOR SHARES


Andrei Shleifer, Harvard economist
 
Jeffrey Sachs, Harvard economist
Privatization stalled soon after 1993, at least in part because its mascot, Acting PM Yegor Gaidar, was sacked and replaced with Viktor Chernomyrdin. The voucher scheme had resulted in the sudden rise of speculators such as Mikhail Khodorkovsky and Vladimir Potanin (1st Deputy PM of Russia), but the actual process of restructuring firms for sale to private citizens had stalled. Worse, the Russian government was facing a liquidity crisis. Vladimir Potanin, an "oligarch," proposed a loans-for-shares auction of stakes in 12 companies, including Yukos, Sibneft, and Norilsk Nickel.5 Wedel's description of the L-f-S scheme is pretty much in line with a dozen other exposés (p.161); Treisman (2010, p.2) lists a few of the milder ones.6  But the fact was that other forms of privatization were blocked by the Duma--even after an armed standoff there.

First: the deal was like a repurchase agreement (or a pawnshop), in which the winning buyer got to take possession of the shares (pledges) if the government failed to repay its debt. Like a pawnshop, the buyers at the auction were lending an amount well below the market value of the pledged shares. As it happened, the Russian state did default on its debts, but the great majority of Russian creditors--ordinary citizens--had nothing as collateral. This default was probably an inside job, in the sense that the RFG probably could have recovered its shares at par by the deadline, but chose not to under the watchful eyes of the oligarchs.

Second, it is immutably true that the single biggest beneficiary of the L-f-S scheme was also its architect, Vladimir Potanin. Potanin ultimately acquired Sidanko for less than $500 million, which is what BP Amoco paid him for a 10% stake in 1997. He also won control of Norilsk Nickel, one of the most valuable mining companies in Russia--which is saying something.7 He and Mikhail Prokhorov, partners in Norilsk, probably are the two most biggest beneficiaries of loans for shares, although Boris Berezovsky and Mikhail Khodorkovsky won enough political influence at the time to bring about their political demise.8 Anatoly Chubais was known to have approved the decision, which was to be one of the least popular in the history of the Russian Federation.


One of the defenses advanced by Treisman (2010, pp.11-12) of the L-f-S scheme is that the most corrupt auctions were those in which the "red managers" acquired control over their own firms.  An especially egregious case is Surgutnaftgaz, which raided its own workers' pension fund to pay for its leveraged buy-out.  The idea here is that the real corruption was perpetrated by the very people L-f-S was intended to divest of control: the Soviet-era management teams at Lukhoil and Surgutnaftgaz. This is actually the weakest part of his defense, because of course it makes no difference if the oligarch happened to have gotten his swag through a position as a state director or as the head of one of post-voucher Russia's many "banks."  

Treisman's defense of having the auctions just then (pp.13-15) is that the public had soured on privatization, and Chubais had to steal a march on the Communists--who seemed poised for victory in the 1996 State Duma elections.  But he doesn't attempt to explain how the auctions wound up being so sleazy.  He never mentions the scandal that embroiled Jonathan Hay and Andrei Shleifer, or the HMC.9

Doubtless the political conditions for privatization were worsening, or thought to be worsening; and it's also true that the market value of the assets was "doomed" to be low, because of a host of different risks faced by investors.  Treisman focuses on the political risks (of Communists winning back the Duma or the presidency, and liquidating the owners); but the uncertainty of future earnings was also a serious problem.  The fixed capital of these concerns was in a parlous state, and productivity was terribly low. The price of oil was still in a protracted funk (FRED2; the same was true for other commodities like nickel and platinum), and wastage of assets was a serious problem.  Also, there continued to be a lot of conditions on the ground that Treisman doesn't mention, conditions which obviously had nothing to do with the administrative modalities of privatization, or any Western country at all.10

Two more points: one is that Prof. Wedel mentions the L-f-S as a "typical" event in which "lucrative state monopolies" were transformed into "lucrative private monopolies" (p.161).  I don't think it was typical: Wedel and Williamson (whose research Wedel relied on a great deal) rely so heavily on it, but it's a very poor example of American advisers "wrecking" the Russian economy.  It was under conditions of national emergency, and these conditions had nothing to do with Harvard advisers.  The L-f-S firms were extractive industries, like Lukoil and Novilipetsk Metals, not monopolies. One could argue that, as extractive industries, they represented unique flows of economic rents, but they were certainly not lucrative in 1995-1996.

The second point is that foreign entities did object: the IMF criticized the loans-for-shares program (IMF, p.127), but lacked the necessary agency over the tottering Russian government. In an interview for Frontline, Prof. Wedel argued that
What happened was that US policy [...] chose this group of power brokers and basically gave them a blank check in the form of hundreds of millions of dollars of US and Western aid, and we helped to create them. Because the main comparative advantage that the Chubais clan, the so-called young reformers, had in the Russian context was their access to hundreds of millions of dollars of Western aid and key Western pundits.
That aid was mostly in the form of ideologically neutral technical assistance, like the setting up of the Russian SEC; and by her own insistence (e.g., p.155 endnote 159 [chapter 4]), the Russian authorities usually denied the claims of major Western pundits to be advisers: they were radioactive!  No one can take the idea seriously that Western pundits of any sort were a political asset by January 1993, which means that only the Western aid "made" Chubais powerful.11
And many of the players who were involved in the so-called economic reforms were also involved in politics. So, in promoting this group of young reformers, so-called, we also were promoting their particular political activities.

[...]

So, here, again, we have political aid under the guise of economic aid. Which is familiar to Russians who were raised under communism, because in many respects the essence of communism was that you had economic decisions made in the political realm.
This is a terrible mistake, that exposes a massive error all through the book: that there is a single, easy-to-recognize, correct economic decision that is totally free of any political baggage.  In reality, this is hardly ever the case.
[...S]ome of the ignorance was understandable. However, what was, I think, not understandable and not excusable was the sheer arrogance and the hubris with which many of these advisers entered the scene and said we have the answers. [...] And they came with their cliches and tried to sell people on both sides of the Atlantic on these cliches and on the idea that they had the answers.
 Here, I think Wedel is putting any adviser in an impossible situation.  She complains that the advisers were arrogant, but her own advice is to be far more arrogant: to divorce economics from politics.  This is a double bind: one the one hand, the advisers were excessively arrogant (they ought to have been more humble?), but on the other hand, they ought to imposed far stricter performance controls on their contacts in Russia (they ought to have been more pushy and controlling?).

(Part 3: SUMMARY)


ADDITIONAL READING

Andrew Scott Barnes, Owning Russia: The Struggle Over Factories, Farms, and Power,  Cornell University Press, 2006
Ira W. Lieberman & Daniel J. Kopf, (editors) Privatization in Transition Economies: The Ongoing Story, Elsevier (2008); Ira Lieberman was at the World Bank during this time.

E. Semenkova and V. Aleksanian, "The Development of the GKO-OFZ Market: Lessons and Prospects," Problems of Economic Transition vol. 43, no.1 (May 2000), pp.74-81 ; translated from the Russian by M.E. Sharpe, Inc. Original article publsieh by the Institute of Economics, Russian Academy of Sciences. This article is not directly related to anything in this essay, but is a valuable explanation of the short history and financial economics of the state short-term bond (GKO, in Russian) market.


Károly Attila Soós, Politics and Policies in Post-Communist Transition: Primary and Secondary Privatisation in Central Europe and the Former Soviet Union, Central European University Press, (2011)

Daniel Treisman, "Loans for Shares Revisited" (PDF), NBER Working Paper No.15819 (March 2010).  A defense of the L-f-S scheme. Readers may want to know that Prof. Treisman (of political science, UCLA) is a co-author with Andrei Shleifer of at least one article, "A Normal Country: Russia After Communism" (PDF), Journal of Economic Perspectives, 19, 1: 151-74 (2005). I have serious issues with this 2nd paper (neoclassical economists are amazingly effective at evading evidence of the human costs of their policies; pp.156-157 are pretty hard to take).  To make matters worse, analysis of the causes of "output collapse" in the former Communist states of the Warsaw Pact is really purblind.

IMF Staff, Russian Federation: Recent Economic Developments (PDF), IMF Country Staff Report No. 99/100 (Sept 1999)


NOTES

  1. By far the vast majority of Google hits for "Chubais Clan" are from Janine Wedel; the same goes for "Harvard Institute for International Development." In one counterexample, Martin Mccauley, in Bandits, Gangsters and the Mafia: Russia, the Baltic States and the CIS Since 1991, Routledge (2014. p.28), criticizes Wedel's hypothesis that HIID advisors were decisive in Russian economic policy after 1992; McCauley strips away the qualifications and narrative culs-de-sac to paraphrase Wedel's thesis as, "[the American monetarist gurus] waltzed through the Kremlin as modern-day Pied Pipers of Hamelin." This was impossible even if the Russian leadership had been psychologically disarmed by the likes of Andrei Schleifer: the Russian state was weak and could not raise enough revenue to balance the budget.

    Martin McCauley's book is the other, independent author who uses "Chubais Clan." He acknowledges the existence of many powerful clans in Russia and has much more specific bases for associating people into clans.

  2. For a good explanation of how the voucher system was intended to work, please see Alfred Kokh, The Selling of the Soviet Empire: Politics & Economics of Russia's Privatization--revelations of the Principal Insider, SP Books (1998), p.26 & following. Kokh was disgraced and forced to resign because he arranged for George Soros to participate in an auction for Svyazinvest (1997) in exchange for a loan made to Pres. Yeltsin's government (to pay government salaries; Wedel, p.163). For a much more specialized and detached analysis, see Soós (2011).

  3. Chubais was the first head of the GKI, in November 1991 (Wedel, p.139); Wedel strongly implies (p.142) that Chubais remained head of GKI when he became deputy prime minister in September 1994, but in fact Chubais was replaced at GKI by Valentin Polevanov. See Ira Leiberman, "The Rise and Fall of Russian Privatization," in Lieberman & Kopf (2008), p.292 (Lieberman was at the World Bank during the relevant time period); or see Mikhail Berger, "Polevanov: Privatization's Newest Foe," The Moscow Times (6 Jan 1995). Looking up the MT story proved fruitful:
    First, all of Chubais' efforts to have one of his deputies appointed -- either Peter Mostovy or Dmitri Vasilyev -- fell through. He was also unable to get President Boris Yeltsin to confirm Sergei Belyayev, who is now heading the state agency in charge of bankruptcy, and with whom Chubais worked closely in St. Petersburg. Yeltsin felt he needed to appoint someone from the provinces in order to "bring in some new blood."
    The article strongly suggests that Chubais was, in fact, losing standing as a result of his "promotion," building up a bigger portfolio.

  4. Oddly, the GAO report made little of this: see "Harvard Institute for International Development’s Work in Russia and Ukraine" (PDF), General Accounting Office GAO/NSIAD-97-27 (Nov 1996), p.26-27.


  5. For actual specifics on the Loans-for-Shares scheme, see Treisman (2010), esp. Table 1, p.10. Also: while I'm loathe to defend the L-f-S, one point bears repeating: while the privatization was extremely dysfunctional, it's hard to imagine a more surprising victim than BP Amoco, especially when it got involved in Sidanko (Vladimir Potanin had "lent" the RFG US$ 130M for a 51% stake in Sidanko; later, BP Amoco paid US$ 484M for a 10% stake in Sidanko)  But BP would ultimately be obligated to write it all off. See Neela Banerjee, "From Russia, With Bankruptcy; A High Cost for BP Amoco's Investment in an Oil Concern," New York Times (13 Aug 1999).  The assets "stripped" from the Russian state required massive restructuring to possess their current high value, and even BP Amoco was unable to capture any.


  6. The most vehement and febrile of these has to be Anne Williamson's Testimony before the Committee on Banking and Financial Services of the U.S. House of Representatives, presented Sept. 21, 1999. The testimony is found in James A. Leach, Russian Money Laundering: Hearing before the Committee on Banking and Financial Services, US House of Representatives (21-22 Sept 1999), p.275.  I strongly suspect that Anne Williamson is a pseudonym, possibly for Janine Wedel.


  7. RE: Potonin & L-f-S, see Alessandra Stanley, "Russian Banking Scandal Poses Threat to Future of Privatization," New York Times (28 Jan 1996);  RE: Sidanko; Neela Banerjee, "From Russia, With Bankruptcy; A High Cost for BP Amoco's Investment in an Oil Concern," New York Times (13 Aug 1999); RE: Norilsk Nickel, see Heidi Brown, "Deripaska Spending Many Nickels On Norilsk Stake," Forbes (25 April 2008).


  8. RE: Berezovsky (Sibneft) and Khodorkovsky (Yukos), see Andrew Kramer, "The Last Days of the Oligarchs?," New York Times (7 March 2009).  Both initially sided with up-and-coming St Petersburger Vladimir Putin; both eventually clashed with him after stints as political consiglieres.


  9. "A Federal judge ruled that, by quietly investing on their own accounts while advising the Russian government, Harvard professor Shleifer and his Moscow-based assistant Jonathan Hay had conspired to defraud the US Agency for International Development (USAID), which had been paying their salary." (See "Judge Finds Against Shleifer, Hay and Harvard," Economic Principals (4 July 2004). As for Harvard Management Company (HMC; manages the University's endowment), Economic Principles noted that  ("Who Is Minding the Store?" 16 Jan 2005)
    Harvard Management was [an] aggressive investor in Russia in the mid-1990s, during the period that Shleifer was advising the Russian government and illicitly investing on his own behalf. For example, Euromoney magazine at the time described Harvard as “bolder than most," because it bought stakes in companies themselves, instead of relying on intermediaries such as hedge fund managers. When government attorneys deposed Meyer in the course of their suit against Harvard, they learned that as much as 1.8 percent of Harvard’s endowment had been invested in Russia in the years before the US government fired Shleifer—some $200 million of a portfolio then worth around $11 billion—not the 10 percent that gossip had it at the time.
    Also, in an exchange in The Nation, "The Nation: Exchange of letters between George Soros and Janine Wedel," Janine Wedel mentioned that she was relying on research by Anne Williamson.  Williamson's view of the 1990s in Russia is quite similar to that of the John Birch Society with respect to the 1949 Chinese Revolution, viz., that the situation could have emerged perfectly for US interests if the Administration had embraced Austrian economics and imposed it on the Russian authorities; and the reason it did not, is some mysterious conspiracy of Pres. Clinton to discredit capitalism and bring about a return of Communism.  This is not sarcasm; it's actually a fairly common point of view.

  10. For example, actual armed fighting over aluminum assets in Siberia. See "Oleg Deripaska and the Russian aluminium wars," EuropeanCEO (24 Jan 2012); or Andrew Kramer, "Out of Siberia, a Russian Way to Wealth ," New York Times (20 Aug 2006).  About a hundred people were killed in the Aluminum Wars and many more badly beaten by gangsters struggling for control of the physical plant.  This was actually a common problem in Russian then.

  11. Actually, according to a GAO audit, this was $40 million from USAID (to HIID); Janine Wedel does not mention any influence Chubais, et al. had over the other ($325 - 40) = $285 million in USAID funding for the Russian privatization program, unless we are to understand that Chubais had veto power over non-HIID grants to Russia. And note PM Chernomyrdin, at whose pleasure Chubais officially served as director of GKI, did not acknowledge any foreign advisers (and probably shared in the general Russian dread of American "advice"). See "Foreign assistance: international efforts to aid Russia's transition have had mixed results: report to the Chairman and to the Ranking Minority Member," GAO report to Committee on Banking and Financial Services, House of Representatives, DIANE Publishing (Nov 2000), p.175.  This source via Wikipedia entry for "Harvard Institute for International Development," which mistakenly imputes to HIID the entire $325 million disbursement (FY1992-1996).

    In the Frontline interview quoted, Wedel claims that the US introduced voucher privatization, although this seems like an odd claim to me: see footnote 3 (above). Ira Lieberman (p.159) says that Chubais chose the then-familiar Czech system of voucher privatization. No one else claims the US government was pushing voucherization on a resistant Russian public.  If this were the case, why would Kokh (a Russian GKI staff member) claim to be part of the group who designed its implementation for Russia?

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