Larry writes:

Economists' forum: Lawrence Summers: I am in general agreement with Martin's thoughtful appreciation of Boris Yeltsin and his strengths as well as his weaknesses. I'd be interested in people's thoughts on three issues.

1. Was it really a mistake ex-ante to provide financial support in May/June 1998, given the stakes involved and the possibility of success and the reality that it was not ultimately costly, given that IMF and others have been fully paid back?
2. Was loans-for-shares a necessary price for Yeltsin to pay when he paid it for winning against the communists/staying afloat? What were the right alternatives at the time?
3. Does Martin really mean to take the strong "resource curse" view that it would be better for the Russian people if oil prices went down and so more reform was spurred?
4. Given corruption issues/absorption capacity problems etc., in what form should a greater level of assistance earlier on been provided? I am sympathetic to this but uncertain how it could have been done. My sense is that ex post it looks right not to have written off debt, but others may disagree.
5. Should policy have been as personalized towards Yeltsin as it was? Is the G7 better off for being a G8?

And Martin Wolf responds:

I thank Larry Summers for his prompt response. He was, of course, heavily involved in the policy decisions of the 1990s. I recognise that they were extraordinarily difficult to make and that there is, in consequence, a degree of hindsight in any judgement.

Let me respond to his questions in the spirit in which they were asked.

1. Yes, I do believe it was a mistake to give support in May/June 1998. The difficulty, by then, was not just that there was an excellent chance of failure. That, in itself, is not a decisive objection to taking such risks. On the contrary, official intervention exists to take risks. I think the big mistake was to associate ourselves so closely with a morally bankrupt and increasingly unpopular regime.
2. I have never understood why loans for shares was the best strategy for defeating the communists. Yes, I understand that Yeltsin needed some finance for his campaign. But he (or, more precisely, Mr Chubais) didn't have to give so much of Russia's wealth away to achieve that end. His financiers had an overwhelming personal interest in his victory (since the communists would surely have taken everything away). They should have been told to make contributions to the campaign on which their own survival depended. As it was, this deal tainted capitalism in Russia for the indefinite future.
3. Yes, I actually do believe strong "resource curse" view, in this case. Actually, the Russian government has done rather a good job of containing the fiscal and exchange rate effects of the increased oil revenues. But I really do believe that reform would have gone far further and the long-term prospects for Russia would be much better if the oil price had remained at, say, $20 a barrel. This is a country with considerable human capital. It should not be living of natural resources. But if it is to use that human capital, the policy and institutional regimes must change. 4. I think the crucial requirements in the beginning were a debt moratorium, at the least, and, above all, a massive technical assistance effort orchestrated at the highest level. In the first few years, the reformers were simply overwhelmed by the task. What they needed was not just an army of good advisers, but strong political engagement from the western side. Just think of the disastrous consequences of the monetary laxity in the rouble zone after the dissolution of the Soviety Union. I would guess that this window existed for little more than a year and a half. Once it had gone, it had gone. We did enough to be blamed by Russians for everything that went wrong, but not enough to give the country a reasonable chance of success. 5. I think it was absolutely reasonable to bet on Yeltsin for at least the first term and the election to the second (since the alternatives were so bad). After 1996, it was a mistake. I am uncertain whether it was a mistake to invite Russia into the G8. It may have been a reasonable gamble at the time, though not one that has paid off. In his book, Strobe Talbot provides some context as to how it looked in the mid-1990s. As I wrote about Talbot's memoirs a couple of years ago: Strobe Talbott, The Russia Hand: Archive Entry From Brad DeLong's Webjournal: In such a situation, the American government can do only two things. First, it can come up with enough money in the form of aid to make the dislocations and privations of transition smaller. Second, it can speak with one voice to assert that the currents pushing for reform are indeed headed in the right direction, and that short-run political difficulties arising from faster economic reforms are likely in short order to be outweighed by longer-run political advantages as successful economic policies begin to have their effect. From my perspective, the most interesting thing about Strobe Talbott's book is how weakly the U.S. government's attempts to undertake these two things were. One thread running throughout [Talbot's] book is the disconnect between President Clinton's commands that those aiding Russia "think big" and the tiny drips of aid money that in fact appeared. Talbot writes (p. 61) of how Clinton and Gore commanded Congress to "'think big and act big' on Russia, and how Clinton smiled when Newt Gringrich 'gave a stem-winding speech on the overriding importance of helping Russia as "one of the great defining moments of our time,"' whispering "'Ol' Newt's trying to... out-Russia me. That's fine, as long as I can keep him with me.'" Talbot writes (p. 58) of how "only when we came back to the President on March 23 [1993] with a[n aid] package worth$1.6 billion was he satisfied." After the end of the Clinton administration, Talbott and Clinton would talk in Clinton's house about how Clinton "...wished we'd done things differently.... [H]e thought we should have done more--much more--in our effort to underwrite the transition to a market economy. He regretted that we hadn't been able to mobilize international support early in the administration for the kind of program that Larry Summers and David Lipton tried to develop... to alleviate the pain and dislocation that came with privatization." But the money from the U.S. wasn't there. And without large-scale U.S. money, the pockets of the Europeans and the IMF are shallow indeed. $1.6 billion is, after all, only$10 per Russian.

Why was the U.S. government thinking of $1.6 billion totals for aid to Russia, rather than$50 billion? If the U.S. was willing to spend $8 trillion over a generation to defend itself against Communist Russia, shouldn't it be willing to spend more than$1.6 billion to try to keep Russia non-Communist? One would think so. But the Reagan administration's deficits in the 1980s had eliminated the ability of the U.S. government to undertake large-scale initiatives. By 1993 the fear was that the exploding budget deficit was on the brink of causing large-scale Latin American-style economic chaos. (Recall that Argentina's total debt at the moment of its late-2001 economic collapse was no larger a share of GDP than and growing no faster than the U.S.'s total debt in 1993.)

Talbott does, I think, owe his readers an obligation to connect the dots. If there truly was a disastrous waste of opportunity (and I think it probable that there was) in the failure of the U.S. to aid Yeltsin in his first term with more than an eyedropper, it is important to understand that the eyedropper was used not because Clinton and his staff did not understand what was at stake but because Reagan had taken away the hose.

A second thread running through the book is the failure of the White House to consistently back what weak reform factions were present within Yeltsin's government. On one side of the internal debate within the Clinton administration were Larry Summers and his right-hand David Lipton, believing that "...Russia's ability to make proper use of the G-7 money depended" on the continuing power of "pro-Western economic reformers like Yegor Gaidar... and Boris Fyodorov" and the eclipse of "those who believed in maintaining employment through subsidies to inefficient enterprises and churning out rubles, propelling Russia back toward the brink of hyperinflation." Summers's reaction to Yeltsin's firing of Gaidar and Fyodorov was, as Talbott recounts it (p. 117), "high dudgeon. Yeltsin, [Summers] said, was inflicting a major blow on Russia's chances... Larry asked me to get word to Clinton that he should intercede with Yeltsin immediately to keep Gaidar and Fyodorov." But Clinton's reaction was not what Summers had hoped. As Talbott tells the story: "'I'll do it', said Clinton, 'but it's a tough one. Their political requirements are at cross-purposes with good economics.' He went off to talk to Yeltsin, while I went looking for Mamedov.... His advice was... 'Don't get excited; don't overdramatize.... You want us to be a democracy... so don't be surprised when a president and a prime minister have to sacrifice a minister of two who are tarred with the brush of what are seen as failed policies. This is real politics. At least we don't shoot people...'"

Or consider the U.S. government's reaction to the infamous 1996 loans-for-shares scheme. Over a the Treasury, Summers and Lipton were horrified. Talbott writes (p. 208) of their "...deep qualms... sure to make instant billionaires... cast discredit on the very idea of market democracy... bad economics, bad civics, and bad politics." The Yeltsin administration responded that the favor that loans-for shares did "the oligarchs was nowhere near as bad as the communist victory it helpd them avert." In retrospect Talbott appears to regret the White House's failure to back Summers and Lipton: "The Russians... calculation... was debatable, and we, as the reformers' constant backers and occasional advisors, should have debated it more with them. We would have done so if we'd had more time, more foresight, and more influence..." Or consider Al Gore's belief that "...Larry's arguments were right on the merits... but... needed to be balanced against the imperatives of Russian democracy, since they, too, exerted 'a force as powerful as gravity or thermodynamics.' Our policy, said Gore, ought to be a 'synthesis between the iron laws of economics and the hard realities of Russian politics'."

What Clinton, Gore, and Yeltsin seem not to have gotten was that doing the "politically smart" thing this year puts you behind the 8-ball when the year after next rolls around. You see, economic policies have consequences. In any but the shortest of runs, there is no trade-off between good politics and good economics. It is only if your economic policies work that you have a chance of being politically smart. The task of a leader is to figure out what good economics is, and how to reframe the situation so that good economics becomes good politics--not to figure out how much economic rationality to sacrifice to short-term political advantage.