The conversion of the world's largest state-controlled economy into a market-oriented economy would have been extraordinarily difficult regardless of the policies chosen. The policies chosen for this difficult transition were (1) liberalization, (2) stabilization, and (3) privatization. These policies were based on the neoliberal "Washington Consensus" of the International Monetary Fund (IMF), World Bank, and U.S. Treasury Department.
The programs of liberalization and stabilization were designed by Yeltsin's deputy prime minister Yegor Gaidar, a 35-year-old liberal economist inclined toward radical reform, and widely known as an advocate of "shock therapy".
The partial results of liberalization (lifting price controls) included worsening already apparent hyperinflation, initially due to monetary overhang and exacerbated after the central bank, an organ under parliament, which was skeptical of Yeltsin's reforms, was short of revenue and printed money to finance its debt. This resulted in the near bankruptcy of much of Russian industry.
The process of liberalization would create winners and losers, depending on how particular industries, classes, age groups, ethnic groups, regions, and other sectors of Russian society were positioned. Some would benefit by the opening of competition; others would suffer. Among the winners were the new class of entrepreneurs and black marketeers that had emerged under Mikhail Gorbachev's perestroika. But liberalizing prices meant that the elderly and others on fixed incomes would suffer a severe drop in living standards, and people would see a lifetime of savings wiped out.
With inflation at double-digit rates per month as a result of printing, macroeconomic stabilization was enacted to curb this trend. Stabilization, also called structural adjustment, is a harsh austerity regime (tight monetary policy and fiscal policy) for the economy in which the government seeks to control inflation. Under the stabilization program, the government let most prices float, raised interest rates to record highs, raised heavy new taxes, sharply cut back on government subsidies to industry and construction, and made massive cuts in state welfare spending. These policies caused widespread hardship as many state enterprises found themselves without orders or financing. A deep credit crunch shut down many industries and brought about a protracted depression.
The rationale of the program was to squeeze the built-in inflationary pressure out of the economy so that producers would begin making sensible decisions about production, pricing and investment instead of chronically overusing resources—a problem that resulted in shortages of consumer goods in the Soviet Union in the 1980s. By letting the market rather than central planners determine prices, product mixes, output levels, and the like, the reformers intended to create an incentive structure in the economy where efficiency and risk would be rewarded and waste and carelessness were punished. Removing the causes of chronic inflation, the reform architects argued, was a precondition for all other reforms: Hyperinflation would wreck both democracy and economic progress, they argued; they also argued that only by stabilizing the state budget could the government proceed to dismantle the Soviet planned economy and create a new capitalist Russia.
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