Russia's second or shadow economy is now so large and pervasive that it is likely to define whatever kind of legal economic arrangements do emerge in the country in the future.
That is the unsettling conclusion of a recently published study prepared by the Russian Academy of Sciences' Institute of Socioeconomic Problems of the Population.
According to the authors of the study, the earlier conviction in both Moscow and the West that “the scale of the shadow economy would diminish and the legal economy would grow as the country moved in the direction of capitalism” has not proved to be true.
Instead, they suggest, “just the opposite has taken place.” In 1990-1991, 10-11 percent of the country's GDP was produced by the shadow economy, but the illegal or semi-legal second economy accounted for 27 percent of GDP in 1993, 46 percent in 1996, and quite possibly more than 50 percent in more recent years.
Because of the size of this sector of the economy and because it is so interwoven with the legal economy, the new study argues that the rules of the game within the shadow economy are far more likely to define behavior within what will emerge as the legal economy rather than be fundamentally transformed by that legalization.
And because this is so, the study suggests, it is critical to understand both where the shadow economy came from, what the current rules of the game are, and how these are likely to play a role as Russia moves to legalize many economic activities that are now part of the second economy.
According to the study, the second economy was relatively small during most of the Soviet period. Its authors cite a Western study that found that the shadow economy produced only 3-4 percent of Soviet GDP in 1973—a percentage far smaller, the study notes, than in many developed market economies.
Until nearly the end of the Soviet period, the shadow economy performed two fundamental functions: it compensated for shortcomings in the functioning of the official legal economy, and it provided a field of activity for entrepreneurs who could not easily fit into Soviet institutions.
With the collapse of communism, these two functions fused, particularly under conditions of what many have described as “incomplete” marketization, a system in which the role of the state or at least of its agents remained large and hence the social space for illegal activities actually grew.
The Moscow study suggests that the shadow economic system now has six defining features: close ties between bureaucrats and entrepreneurs, continuing interference by the state in the economy, preservation of many old monopolies and the growth of new ones, high and repressive taxes that are easy to avoid, the impoverishment of much of the population, and the absence of a legal framework for the economic transformations that have occurred.
The study continues by observing that even though “approximately two-thirds of all enterprises are almost unaffected by the shadow economy in their activities, those firms that are involved are heavily so.” Moreover, the behavior of these firms casts a long shadow on all the others, in many cases because the shadow economy produces higher incomes for those who are involved it.
And the report draws three conclusions: First, until legal economic activity produces more wealth than the semi- legal or illegal activities of the shadow economy, many people will continue to turn to the shadow economy to seek their livelihood.
Second, the percentage of the country's GDP produced by the shadow economy will begin to fall only when the country enters a long period of stable economy growth, during which enterprises will be able to renew their technologies and thus generate real wealth on their own.
And third, even when this change takes place in Russia—and the authors are optimistic that it will—many of the values and patterns of the shadow economy will help to define the values and patterns of the future legalized market economy there for many years to come.