Archive for March, 2014

War production and investment spending: how many divisions has Putin?

March 19, 2014

For a brief period in the 1920s, compelled by circumstance amid the daunting wreckage of Civil War, the new Soviet state became the world centre of development economics.

In swift order arrived Preobrazhensky’s model of surplus mobilization from agriculture (1926), Feldman’s theory of capital accumulation (1928) and Chayanov’s model of the peasant household (1925).

While the Soviet Union has since received its traumatic quietus, the topic at stake in these discussions — industrialization of a largely rural, middle-income economy, in a territory subject to repeated military incursions — never quite vanished.

Today’s reduced circumstances — notwithstanding recent short-lived bubbles of energy, real estate and stock market — grant it renewed relevance.

When the Tsarist state was shattered by blows from the Hohenzollern Empire, harsh lessons were absorbed by its Bolshevik successors. One result was the theoretical flourishing described above.

With the Stalinist bureaucracy having since succumbed in no less catastrophic fashion — vast tracts of its territory excised and conceded, its population whittled down and industrial capacity reduced — no similar outbreak of reflection has been in evidence.

Yet, with capitalism restored in a diminished Russia, old issues have resurfaced for the Kremlin’s policy elite.

One the one hand, lack of internal macroeconomic development bridles Moscow’s military capacity and curbs its conduct of international statecraft. On the other, lopsided devotion to war industry pilfers resources that might otherwise augment Russia’s stock of capital equipment and infrastructure.

Such is the state of disarray, domestic and external, as NATO presses its forces and weaponry against ex-Soviet borders.

In 1930 Tukhachevsky’s proposal to create a ‘military-planning complex’ was dismissed by Stalin, who greeted it with the accusation of ‘red militarism.’

It was, Stalin said, ‘the result of an entertainment with leftist phrases, the result of a play with paper, bureaucratic maximalism… To carry out such a “plan” would certainly ruin the economy of the country, and the army’.

Tukhachevsky had mused about increasing the number of motorized and mechanized units, combining artillery and tanks with airpower:

The success of our socialist construction, as well as the changes in the countryside, put the whole question of a reorganization of the armed forces on the agenda, due consideration of all the new factors of technology and the possibility of mass-scale production of armaments.

By 1933, he suggested, the Soviet Union could maintain 40 000 operational aircraft and 50 000 tanks, allowing 240 infantry, 50 artillery and 20 cavalry divisions:

These figures characterize (by modest indications) our prospective production capacity in aeroplanes and tanks and call for the appropriate organizational forms of the Red Army, which the Army inevitably must adopt.

Stalin, in his clotted style, responded thus to Tukhachevsky’s ‘super rearmament’:

In his ‘plan’ the essential is lacking, that is, there is no calculation of the realistic possibilities in the economic, financial and cultural dimension. This ‘plan’ definitely distorts any conceivable and permissible proportions between the Army, as one part of the country, and the country, as an entity with limits in the economic and cultural dimension. ‘The plan’ fulfils the views of ‘purely military’ men, who often forget that the army constitutes a derivative of the economic and cultural condition of the country.

In other words, the armed forces did not generate their own surplus for reinvestment, nor cover their own operating expenses.

Instead, they depended in material terms upon subventions from the ‘basic’ industries, which set an upper limit to their size.

Ignoring this binding constraint, and engaging in drastic military expenditure, would eat away at potentially investible resources and prevent formation of the very fixed assets that might otherwise support the Red Army.

In 1930, due to the Soviet Union’s economic underdevelopment, the available surplus above current consumption seemed too meagre to squander on lofty goals of military construction, equipment and munitions procurement, which were starting from a very low base.

Supply bottlenecks obliged the Kremlin to choose between investment in new productive capacity (iron, steel, fuel, mechanized equipment, transport infrastructure) and military spending.

Yet by the end of the second Five-Year Plan in 1938, an armaments industry had been erected that, numerically speaking, met Tukhachevsky’s grandiose hopes: doubling its staff, and tripling its output, in the space of four years.

Once complementary investments had come on-stream, capacity existed to build a war machine.

RW Davis - Planning for mobilization

Mark Harrison - Second five-year plan

During interwar years, of course, this story was hardly unique to the new Soviet Union.

The developmental state in Japan provides the obvious comparison: accumulating a stock of fixed capital (shipyards, blast furnaces, automotive plants) that provided Tokyo with a heavy-industrial base for armaments production.

But after 1945 Japan became a US protectorate. Since then, under Washington’s security umbrella, Japanese militarism has no longer frittered away the investible surplus (nor, after MacArthur’s land reform, have an idle class of unproductive landowners). With the hegemon picking up Cold War military overheads, a high proportion of scientists and engineers became available for R&D in the civilian economy.

Partly as a result, down to the 1980s capital goods used per worker and labour productivity increased more rapidly in Japan than anywhere else in the world.

On the other hand, Russia has constituted a national anomaly. For in this perennial Kampfplatz the issue has reappeared insistently, history having contrived no resolution in the form of a benevolent suzerain.

Consider Engels’s remark in 1890 on the results of the Crimean War:

The war had proved that Russia needed railways, steam engines, modern industry, even on purely military grounds. And thus the government set about breeding a Russian capitalist class…

[The] new development of the bourgeoisie was artificially forced as in a hot-house, by means of railway concessions, protective duties, and other privileges; and thus a complete social revolution was initiated in town and country, which would not allow the spirits once set in motion to return to rest again.

Again and again, Moscow’s status as a Great Power, and the country’s security from external threat, has posed for the Kremlin the ‘conceivable and permissible proportions between the Army, as one part of the country, and the country’.

How should the surplus be divided between military spending (wastefully diverting resources from the civilian economy and thus impeding productivity growth) and accumulating new industrial capacity (investing in fixed assets that provide the economic basis for warfare and peacetime geostrategy)?

At different times, depending on parameter values, military expenditure and fixed-capital formation (and labour productivity) might be complementary, moving in sympathy as under Stalin during the 1930s (when both rose) and the 1990s under Yeltsin (when both collapsed). Or they could conflict, moving inversely as in the late Brezhnev years (again, to unhappy effect).

As Stalin noted, this was a problem of apportioning society’s total workforce and other resources to specific activities and different lines of production.

For any economy, some tradeoff necessarily exists: every society needs to allocate its aggregate labour resources  person-years per year, or simply working-age persons  between particular tasks or occupations.

A capitalist society generally does this by means of price signals: private investment flows into the most profitable lines of production, increasing labour demand and employment in these activities.

During wartime mobilization, however, labour is deployed to the desired tasks by ‘political’ methods: conscription of prime-age males, placement of orders and procurement by state planning boards, and other bureaucratic procedures.

Even during peacetime, resource planning proceeds at its highest level using ‘in-kind’ physical units. The US Defense Department specifies to Boeing or Northrup Grumman how many combat aircraft or jet engines it needs to procure.

RW Davies - Soviet weapon production

nimitz class supercarrier

What about ex ante mobilization by a state preparing to go to war?

A state fighting a prolonged war cannot just myopically allocate all its labour resources to the war-front in the hope of immediate victory. It must prepare and maintain the civilian productive capacity of heavy industry and capital goods  steel production, shipbuilding, aviation, construction, munitions and armaments, chemicals and engineering, vehicles and parts, fuel and power supply  as well as food, clothing, medicine, transport, communication, etc.

Long-term creation of such a military-industrial base, in order to boost war-making potential, is known as ‘armament in depth.’

Under Stalin, much of this industrial base (e.g. Magnitogorsk) was deliberately dispersed eastward beyond the Urals and Siberia, far from European predation from the west and with its own nearby deposits of fuel and minerals (e.g. the Kuznetsk Basin).

Industrial facilities of this sort provide necessary inputs for the armed forces. Alternatively, during peacetime this military-productive base may produce civilian goods for households or firms, while being available to switch to armaments production in the event of mobilization.

During the 1930s, Stalin’s government maintained enormous peacetime spare capacity in its armaments sector. This exchange was recorded at a meeting of officials in the Heavy Industry Commission.

M.M. KAGANOVICH: You have 500 or 600 machine tools tied up with wire.

I.I. PAVLUNOVSKII: It’s not my fault that there is no war. (Laughter). It is better that these machine tools remain tied up. They are mobilization resources, special equipment, and we must base our current estimates on equipment which is actually working.

Factories and equipment did not merely lay idle, but were also used to produce civilian goods. The historian R.W. Davies records:

[A] document about the planned new artillery and ammunition factories proposed that the artillery factories should manufacture refrigerators, compressors, and road construction equipment, shell factories should make machine tools and ball bearings, explosives factories should make bicycles, gramophones, and metal goods, and gunpowder factories should make plastics and artificial leather.

Including this heavy-industrial base, during the Second World War the war economy of the belligerent states directly and indirectly mobilized up to a half of each society’s total workforce.

Harrison - workforce mobilization in WW2

This demanded enormous fiscal outlays: military expenditure absorbed between 50% and 75% of gross output in Germany, Britain and the Soviet Union.

Government borrowing on this unprecedented scale had been made possible by institutional changes during the previous few decades, which had stabilized government finances while improving credit.

In particular the establishment of central banks and collapse of the gold standard allowed liquid markets for state liabilities to develop.

Liberty bonds

Indeed, most Great Powers had already undertaken such changes, which allowed them to appropriate a huge share of economic output, in time for the Great War.

WW1 government spending in national income - Broadberry and Harrison

The United States, something of an imperial laggard, had more than rectified this lack by the 1940s.

In Stalin’s Soviet Union, where the amount of state procurement was decided in physical terms by the planning bureaucracy and then balanced via a turnover tax, military spending rose from 2% of national output in 1928 to 6% in 1937 and 15% in 1940, roughly the same proportion as in Hitler’s Germany.

Harrison - resource mobilization in world wars

Recall that the level and direction of military spending tells us how labour and other resources are distributed, by whatever means, between different sectors and branches of industry. Resources deployed for military purposes thereby become unavailable for alternative uses.

Diverting resources away from these alternatives uses may, as Adam Smith pointed out, be self-defeating for security purposes. A growing military depends on productivity improvements in other sectors (so that resources are freed up for unproductive use on warfare), yet in return technical improvements in the military sector exercise no such beneficial effect on other industries (I’m referring here to final output rather than intermediate products such as engines).

If, due to some technical innovation, farming grows more efficient then food and livestock become cheaper and more peasants, freed from the land, are available to send to the armed front, and once there will be provisioned at lower cost. But if some invention makes cruise missiles cheaper to produce there is no flow-on to make any production process in future periods cheaper. The state can simply afford more of them. A cruise missile, being purely destructive, is like a luxury good in that it doesn’t enter into the production of other goods, either directly or indirectly.

f-16

By 1950 Soviet military spending had declined to 9% of national output. But it spiked again with the Korean War and would subsequently yo-yo obediently over the next 40 years in response to each geopolitical exigency, arms race or change of mood in Washington.

Thus from the early 1970s Brezhnev’s Kremlin dramatically increased the level of R&D devoted to military ends. This, which diverted technical employees (engineers and scientists) away from the civilian economy, helped lead to slower productivity growth in the productive core of the economy.

Coal, oil and steel  the foundation of the Soviet productive base  performed calamitously from 1975 as existing low-cost reserves were depleted and, with technical progress stalled, no adequate replacements found (e.g. the resort to low-quality lignite). The oil price collapse of 1986 would strand hunks of high-cost infrastructure: ageing fields, pipelines and railways littered across West Siberia from Kazakhstan to the Arctic Ocean.

The CIA concluded that by the early 1980s military spending as a proportion of Soviet GDP was around 16%, one-third above its level in the 1960s, and made up one-third of total budget outlays.

A series of RAND Corporation reports claimed that Soviet military clients enjoyed preferential input supply and other priorities that were impeding productivity growth in the civilian economy:

The military R&D sector benefits from a high-powered priority system that overrides the planning network. It receives ample resources and facilities; it has first claim on supplies, specially produced items, and scarce resources. Finally, there are no spillover effects to the civilian economy. This disadvantage stems from secrecy, the need to limit new materials and components, and lack of funds to diffuse the achievements of military R&D.

High-voltage power transmission and oil pipelines from Siberia and Kazakhstan to the country’s west, improved exploration and drilling technology and other projects necessary to maintain and upgrade the Soviet industrial base (and with it the armaments sector) were neglected.

With a falling share of net investment in the plans of the 1970s and 1980s, the immediate needs of the armed forces and those of expanding the country’s productive capacity had entered into sharp conflict.

Robert Allen - Soviet productivity growth by industry 1965-1985

Robert Allen - Soviet TFP 1928-1989

Worse was soon to come after the Kremlin bureaucracy, sensing its moment, opted to restore the old regime.

From 1991, rundown and destruction of the former Soviet Union’s capital stock had the useful result (for Washington) of shrivelling Moscow’s industrial base for military activities.

Absolute deindustrialization would be prolonged and severe. Under Yeltsin, and with technical assistance provided by the US Treasury and Harvard Boys, Russian fixed investment fell by 40% in a single year, reaching an abysmal 12% of GDP in 1999.

With its factories, capital equipment and infrastructure depreciated or sold for scrap, with local savings plundered and assets filched abroad, the Russian state would not rejoin the world market as a peer competitor, but only as supplicant.

Anointed on a glad-handing visit to Washington, and eager to please, a supine Yeltsin agreed to reduce military spending by 15% in a single year.

Yeltsin

Since the ‘recovery’ engendered by the oil-price takeoff after 2001, productive investment has remained feeble, barely reaching levels necessary to cover physical depreciation.

A speculative inflow of liquidity from 2004 channelled funds into Russia’s financial system, prompting appreciation of the ruble and an asset-price bubble in local stocks and real estate.

These financed a consumption splurge as foreign goods became cheaper and borrowing more affordable (credit grew by 36% in 2006-2007). But the high exchange rate made non-oil exports uncompetitive and further hollowed out the industrial base. The crash in 2008 saw GDP fall by 8 percent, amid a chain of bankruptcies and defaults.

Today Russia’s surplus product is dissipated on baubles and kitsch displays, embodied in luxury consumption goods imported from abroad for its rentier class. Under Putin, the latter have grown plump but the territory’s productive capacity wanes.

The surviving stock of capital equipment and buildings is disproportionately old, low quality and economically unviable.

Yeltsin’s procurement cutbacks during the 1990s have meant that Russian military equipment is older still: successive Chechen campaigns revealed heritage trucks, helicopters, weapons and armour to be scarcely operable. The Georgian performance in 2008 provided little reassurance.

Though oil revenues have recently allowed Moscow to commence a modernization drive in military hardware, two decades of atrophy have taken their strategic toll. Force disposition reflects straitened circumstances.

Russian military capability 2013

Local conditions were thereby prepared for NATO’s strategic encroachment on the ex-Soviet space (‘From containment to enlargement’, in the words of Clinton’s National Security Advisor).

Since 1991, the latter has involved territorial dismemberment of the collapsed state across its southern and western perimeters, followed swiftly by NATO’s absorption of ex-Soviet Baltic states.

Poland, Lithuania, Latvia, Estonia and Ukraine now provide a cordon sanitaire between Russia and Germany, while extension of NATO’s security alliance to include Romania, Bulgaria and perhaps (long touted) Ukraine allows US domination of the Black Sea and Caspian basin, and thus of the Caucasus and Central Asia.

Moscow’s capacity for naval power projection into the Baltic and Mediterranean, and overland links to the Persian Gulf via the Caucasus and Caspian Basin, have been abruptly diminished.

The extent of the ‘peace dividend’ won by Washington was bluntly spelt out by Brzezinski in The Grand Chessboard (1997):

The collapse of the Soviet Union produced a dramatic historical reversal. In the course of merely a few weeks in December 1991, Russia’s Asian space suddenly shrank by about 20 percent, and the population Russia controlled in Asia was cut from 75 million to about 30 million. In addition, another 18 million residents in the Caucasus were also detached from Russia. Making these reversals even more painful to the Russian political elite was the awareness that the economic potential of these areas was now being targeted by foreign interests with the financial means to invest in, develop, and exploit resources that until very recently were accessible to Russia alone.

[…]

The collapse of the Soviet Union produced monumental geopolitical confusion. In the course of a mere fortnight, the Russian people  who, generally speaking, were even less forewarned than the outside world of the Soviet Union’s approaching disintegration  suddenly discovered that they [sic] were no longer the masters of a transcontinental empire but that the frontiers of Russia had been rolled back to where they had been in the Caucasus in the early 1800s, in Central Asia in the mid-1800s, and much more dramatically and painfully  in the West in approximately 1600, soon after the reign of Ivan the Terrible.

[…]

In brief, Russia, until recently the forger of a great territorial empire and the leader of an ideological bloc of satellite states extending into the very heart of Europe and at one point to the South China Sea, had become a troubled national state, without easy geographic access to the outside world and potentially vulnerable to debilitating conflicts with its neighbours on its western, southern, and eastern flanks. Only the uninhabitable and inaccessible northern spaces, almost permanently frozen, seemed geopolitically secure.

Brzezinski former Soviet Union

At this turn of events, Brzezinski, like Clinton, felt the Kremlin’s pain:

Most painful of all, Russia’s international status was significantly degraded, with one of the world’s two superpowers now viewed by many as little more than a Third World regional power, though still possessing a significant but increasingly antiquated nuclear arsenal.

But the foreign-policy strategist must keep his head and focus on the prize:

The disintegration late in 1991 of the world’s territorially largest state created a “black hole” in the very center of Eurasia. It was as if the geopoliticians’ “heartland” had been suddenly yanked from the global map.

The collapse of the Russian Empire created a power void in the very heart of Eurasia….

For America, this new and perplexing geopolitical situation poses a crucial challenge… [The] long-range task remains: how to encourage Russia’s democratic transformation and economic recovery while avoiding the reemergence of a Eurasian empire that could obstruct the American geostrategic goal of shaping a larger Euro-Atlantic system to which Russia can then be stably and safely related.

In this project of permanently subjugating an enfeebled Moscow, and reducing its territorial influence to a narrow rump, one (Ruthenian) treasure held particular value:

Ukraine, a new and important space on the Eurasian chessboard, is a geopolitical pivot because its very existence as an independent country helps to transform Russia. Without Ukraine, Russia ceases to be a Eurasian empire. Russia without Ukraine can strive for imperial status, but it would then become a predominantly Asian imperial state, more likely to be drawn into debilitating conflicts with aroused Central Asians… However, if Moscow regains control over Ukraine, with its 52 million people and major resources as well as its access to the Black Sea, Russia automatically again regains the wherewithal to become a powerful imperial state, spanning Europe and Asia. Ukraine’s loss of independence would have immediate consequences for Central Europe, transforming Poland into the geopolitical pivot on the eastern frontier of a united Europe.

The truth of the matter was crisply put: ‘Now a non-Eurasian power is preeminent in Eurasia — and America’s global primacy is directly dependent on how long and how effectively its preponderance on the Eurasian continent is sustained.’

This sober reckoning of respective forces supplies a bracing antidote to today’s Euro-American media consensus, the weight of the political class behind it, for which a ravening Muscovite bear again stalks Eurasia.

Brzezinski - NATO axis 2010