Mr. Menshikov addresses a serious issue: Why has the Russian economy declined so badly, and what can be done about it? In any situation with great gains and losses at stake, opinions are going to be strong on many sides. While I don’t agree with some of the details of his argument and some of his recommendations for resolution, I think that the basic thesis—that fiscal austerity has gone too far and is also not the way to promote economic growth—can be sustained.

I found the discussion of falling investment to be particularly revealing—and alarming. This is similar to what happened in the United States during the Depression. Investment fell drastically, and with multiplier effects brought down demand for consumer goods, employment, and GDP. Keynes General Theory described insufficient aggregate demand as the cause of GDP decline and unemployment during the Depression. The facts presented in table 3 tell the same story. (Note: During the Depression falling prices created incentives for investors to wait, which cut investment; as Keynes described, the eventual impact on aggregate demand and employment was several times the initial investment shortfall. In 1990s Russia, the cause of falling investment has more to do with political disagreements, but the impact on aggregate demand is similar.) If I were still teaching, I could put data from table 3 into a test question for a college intro course; any student who did not work out that a 75 percent fall in real aggregate investment during 1990-96 would result in a 25 to 40 percent fall in GDP would not do well on the test.

Data in table 1 strongly support the argument that budget deficits have not been the cause of Russian inflation. That makes political-economic sense: the corrupt rich can get money more easily from bank loans than budgetary allocations; without putting expenditures on budget, the ruling elite can channel money to buddies through banks. We see money supply and credit expanding much more than required to cover budget deficits (see table 1, especially data for 1995 and 1996). A similar argument is workable in many other countries where the IMF and the World Bank have gone overboard to press for fiscal austerity, but where budget deficits do not explain monetary expansion and hence inflation.

Aside from monetary expansion, supply-side price increases no doubt go a long way to explain inflation in Russia.

What is the solution? I do not agree with suggestions in the article that focus on changes in macroeconomic policy by the central government. Yes, some relaxation of spending limits and deficit targets is reasonable; deficit spending is part of the solution. Who can invest for expansion when demand is weak? However, the core of a workable solution may have more to do with changing government-business arrangements for long-range planning so that private investment can increase. How to create more trust and stronger partnerships among economic players (government, people, labor, businesses)? How to help small and medium-size businesses invest? How to help people invest in new houses and apartments?

I think an important part of the answer is to shift taxes and regulatory authority out of Moscow into oblast and local governments, so that business and government can work together and plan at that level. This is also an answer to corruption; putting power closer to the people, and breaking up large power concentrations at the center, exposes criminals to closer legal and democratic oversight. Responsibility for remaining privatization can also be shifted down, so that power does not continue to mass in a small group of corrupt people in Moscow.

The basic economic problem in Russia is that there is not a consensus in favor of recovery and growth among political-economic factions. Many in the World Bank are in favor of killing off a large share of the institutions that guided the Russian economy through 1990, and call it "reform." This negative agenda is commonly presented as a growth strategy, with the linking argument that destruction is necessary before healthy growth can take place. A similar (and equally false) argument supported Hoover’s do-nothing approach to the Depression.

However, if we are in favor of destruction, that means that we are not willing to accommodate, work, and live with important economic factions; if that is the case, then within the Russian economy long-range planning is difficult; if long-range planning is hostage to conflict, then investment lags; and low investment largely explains low demand, falling GDP, and increasing unemployment. The basic change necessary to turn the corner in Russia is to prioritize growth rather than reform, and then to work with whomever and agree to whatever unpalatable measures we have to, so that recovery takes place.

As long as Bank staff don’t prioritize recovery, we are part of the problem. If we do not change our position, I expect that we will sooner (rather than later) see a drastic falloff in influence and access to economic policymakers in Russia.