That Time the Soviet Union (Grudgingly) Turned to Free Markets to Save Its Collapsing Economy
Imagine an economy where there is no money. All currencies, mediums of exchange, and other intermediaries of trade no longer exist. Instead of having money, everyone is issued ration cards that dictate what goods they can have and in what quantities. Everything, from food you buy to the clothes you wear to medicine you need, are determined by your ration card. Imagine also that in this economy, there is no exchange. Everything is owned collectively and administered by the state. The production of all raw materials, capital, and consumer goods is undertaken by the state. There are no businessmen because the state takes care of all business.
This hypothetical economy is not purely imaginary. An economy identical to the one I just described has existed before in history. From 1918-1921, the Soviet Union had such an economy, often referred to by historians as “War Communism”. It was a complete and unmitigated disaster. This is its story:
The Soviet Union and War Communism: 1917-1921
In 1917, the Bolsheviks seized power in Moscow after the deposition of the democratic provisional government which had replaced the Tzar. However, the Bolsheviks’ hold on power was far from secure. There was little affection anywhere for the Tzar, but there was no agreement on what form of government should replace the monarchy. Bolshevism had been on the rise for years, but ideas of democracy and liberalism were gaining popularity as well. Shortly after the 1917 revolution, the Russian Civil War broke out between the Reds, the Bolsheviks, and the Whites, a coalition of anti-Bolsheviks that were generally democratic.
Through the course of the civil war, the Bolsheviks gained more power and control over increasingly large amounts of Russia. With this control, they began to implement their Marxist economic ideas into reality. On January 28, 1918, it was decreed that all factories should be directed by state-appointed managers. In effect, this amounted to a near-complete nationalization of industry. In one fell swoop, the vast majority of the production of Russia’s consumer goods was now under the purview and direction of the state.
On May 9, 1918, a grain monopoly was announced over grain production in the country. All grain harvested across the country was now the property of the state. This was extended even further when a general food levy was announced in January 1919. Any and all food was now the property of the state. In addition, local farm authorities were no longer allowed to set the levy based on harvest estimates. In essence, the state would take however much it wanted from the peasants without any concern if they had enough food to feed themselves and their families.
It was at this point that large-scale forced rationing was introduced. Money was made worthless overnight as ration cards were mandated to the entire population. No longer could you buy whatever you wished with the money you had. The goods allocated for you were predetermined on your ration card.
By late 1920, going into 1921, the Russian Civil War was all but over. The Whites had been soundly defeated by the Reds, giving the Bolsheviks control of nearly the entirety of the country. However, despite the victory in the Civil War, the economy at home was beginning to fall apart. Industrial production was at 20% of pre-war levels by 1920. As a result of this lagging production, there were few goods in the cities available. This resulted in a flight from the cities to the countryside. From 1918 to 1920, eight million people emigrated from the cities to the villages, where there was better hope of finding food or some goods. In Moscow and Petrograd, the population declined by 58.2%
The agricultural situation was not much better. Sheldon Richman records that from 1909-1913, gross agricultural output averaged 69 million tons. By 1921, it was just 31 million. From 1909-1913, sown area was over 224 million acres. In 1921, only 158 million acres were sown. This lack of food resulted in a mass loss of population. From 1917 to 1922, the entire population declined by 16 million, not counting immigration and deaths from the civil war.
Even Lenin, the most ardent supporter of a Communist utopia, eventually became what he hated most: a capitalist.
War Communism was now fully implemented and the Marxist aspirations of Lenin and the Bolsheviks were now fulfilled. For the people that had to live under War Communism, however, the conditions had become intolerable. In February 1921, labor strikes began to emerge all over Russia. With the end of the civil war and living standards continuing to fall, resistance to the Bolsheviks began to spread throughout the country. Moscow was the first city to strike, with other large cities, such as Petrograd, following. The protestors demanded an end to War Communism and a restoration of private enterprise and civil liberties, such as the freedom of speech and assembly.
The protests escalated when the Kronstadt Naval Base mutinied against the government. Once a bastion of Bolshevik support and fervor, the sailors joined with the laborers in demanding reform and change. A force led by Trotsky was dispatched to deal with the mutiny, but Lenin knew that change was needed. The writing was on the wall for War Communism.
The New Economic Policy
After a meeting of the Tenth Party Congress in March, a new set of economic programs was agreed upon. These changes would come to be known as the NEP, or New Economic Policy. The general levy on food was rescinded, allowing peasants to keep the surplus of their harvest and sell it on the market for their own gain. Small businesses would be allowed to operate once more. All systems of rationing were dismantled and money returned into the economy to facilitate exchange. Even though large parts of industry were still controlled by the state, the totalitarian control of War Communism had been rejected in favor of private enterprise and free markets.
In Revolutionary Russia: 1881-1991, author Orlando Figes relays the stunning turnaround after the implementation of the NEP:
“The restoration of the market brought life back to the Soviet economy. Private trade responded instantly to the chronic shortages that had built up over seven years of war, revolution, and the Civil War. By 1921, everyone was living in patched-up clothes and shoes, cooking with broken utensils. People set up booths and stalls; flea-markets flourished; peasants sold their foodstuffs in town markets; and “bagging” to and from the countryside once again became a mass phenomenon. Licensed by new laws, private cafes, shops, and restaurants, even small-scale manufacturers appeared like mushrooms after the rain. Foreign observers were astounded by the transformation.”
As Figes illustrates, there was an almost immediate recovery of the Soviet economy. Where there once was empty shelves and empty stomachs, ample food and manufactured goods were now available for purchase. The constant shortages that had marked War Communism were replaced with businesses flushed with products to sell.
The Legacy of War Communism
What went wrong? The Bolshevik leaders had their own ideas about why their Communist utopia had failed to arrive. Lenin claimed that “state capitalism” was a necessary stage before communism could be achieved. Before all property and exchange could be discarded for good, a “mixed economy” was first necessary. A convenient explanation for the failures of the state planning, no doubt. Some right-leaning figures in Moscow, such as Bukharin, became more favorable to the idea of private enterprise and embraced the NEP as being the ideal system, as opposed to a temporary necessity. Others, such as Stalin, saw the NEP as a mistake, and a return to state planning would work if given enough time.
Even if the Bolsheviks were divided on why War Communism failed, economics gives us a clear answer as to why central planning of an economy cannot work. It is because central planning cannot transfer information in the same way that markets can. Knowledge about the relative scarcity or abundance of any particular good or resource can be easily transmitted via prices. If an iron mine collapses, and the production of iron falls by 50%, the knowledge that iron is now scarcer and that it should be more carefully allocated is reflected in a rise in the price of iron. There is less iron on the market, so less will be used in the production of goods.
This knowledge transfer happens automatically and seamlessly on markets, but cannot occur so easily in a system of central planning. The knowledge that an iron mine has collapsed will have to be manually transmitted to every producer that uses iron. Absent a market system, information concerning the relative scarcity or abundance of every goodwill have to be manually transmitted, a process far less efficient than market prices.
Even more important than the problem of transmitting knowledge, a system of central planning has no way to be able to rationally know what the prices of any goods should be. Without supply and demand able to act freely, prices will be set by nothing other than the whim of the central planners. Prices exist to allocate resources efficiently in an economy. Those that value a good relatively more highly will purchase it, while those that value it relatively less will not purchase it and purchase other goods they value more highly instead. If no prices exist, there is no way for the central planners to be able to allocate those resources efficiently. There is no way to allocate resources to those that value them the highest.
The experiment of War Communism demonstrates a simple truth: everyone comes to respect markets eventually.
This lack of knowledge concerning prices affects consumer markets, as there will be no rational allocation of everyday items to those that value them the highest, but more crucially, it applies to questions of production as well. In a market system, profit and loss will direct entrepreneurs into production lines that are valuable to society and will direct them away from production lines less valuable. If there are no prices, there is no way for central planners to know what lines of production are profitable and which are unprofitable. They have no way to rationally make production decisions. Consequently, all production decisions are left to the mere whim of the planners without any metric to gauge the success or failure of their decisions.
The disaster of War Communism is precisely the outcome that economics predicts for a centrally planned economy. Without prices, knowledge cannot be easily and efficiently transferred throughout society. This lack of prices also leads to a lack of rational production decisions, as there is no way to rationally allocate goods. Without these two mechanisms in place, we would expect any centrally planned economy to be inefficient and impoverished compared to a market economy. This perfectly describes what we observed under War Communism and its transition to the NEP.
As much as ideologues like the Bolsheviks wished for the success of War Communism, and by extension the superiority of planning over markets, even they had to face its failures. Neither could the Soviet propaganda machine spin War Communism as anything resembling success. As embarrassing as it was, the Bolsheviks were forced to return to free markets and private enterprise.
The experiment of War Communism demonstrates a simple truth: everyone comes to respect markets eventually. No matter how much one embraces a planned economy, eventually, that economy will fail. When it does, the only place to escape is a flight back to free markets and private enterprise. Even Lenin, the most ardent supporter of a Communist utopia, eventually became what he hated most: a capitalist.
This article was originally published on FEE.org