How were Soviet factories profitable
U. Tornado Alley
from the nineties
There were some individuals who became so immensely rich in the privatization of the values of the Soviet system that they considered them to be oligarchs became known. The name implies that they were powerful. They weren't the only ones getting rich, but their success placed them in a different category. Some lost their status as a result of the August 1998 financial crisis, but all of the original seven oligarchs are included. Their names are:
- Paul Klebnikov, Godfather of the Kremlin: Boris Berezovsky and the pillage of Russia, Harcourt, Inc., New York, 2000.
- Chrystia Freeland, Sale of the Century: Russia's Wild Ride from Communism to Capitalism, Crown Store, New York, 2000.
- Marshal I. Goldman, Lost Opportunity: What Has Made Economic Improvement In Russia So Difficult, W.W. Norton & Co., New York, 1996.
- David E. Hoffman, the Oligarchs: Abundance and Energy in the New Russia, Perseus Book Group, New York, 2002.
Boris Berezovsky came to the business world of Russia through an odd route. He was a software engineer. He was born and raised in Moscow and received a quality education in electronics and computer science at an institution that was involved in the Soviet space program. Berezovsky went on to graduate school at Moscow State University, where he received the equivalent of an American Ph. D. in the 1970s and ultimately the Russian Ph. D. advanced than an American Ph. D. in 1983 at the age of 37 acquired. He worked for twenty-five years at the Soviet Academy of Science in the field of decision-making and in the field of automation using industrial computers.
He decided to enter the business world. At the Academy of Science he had worked with the Avtovaz, a company that the Soviet government had discontinued right up to producing automobiles for the Soviet mass market. The Soviet government contracted for the Italian automaker Fiat to build a large-scale auto plant 700 miles east of Moscow. The town where the factory was located was named Togliatti after the head of the Italian Communist Party. The operation was not a technical triumph. It was vastly overstaffed and the quality of the product was low. Labor productivity was about a thirtieth that of the American and Japanese automotive industries.
Berezovsky suggested to Avtovaz that he provide help to the company for automation and computer control of factories. The structure of the arrangement was that Berezovsky would set up a company in Switzerland that would create a joint venture with Avtovaz. This would gain the benefits of the Soviet government program set up to encourage foreign investment in the Soviet economy. A special feature of a joint venture is the foreign partner could take some profits from the enterprize out of the country.
Once the legal structure for the foreign partner in Italy, Logovaz, was set up. Berezovsky was involved in running an auto dealership to sell the Ladas produced by Avtovaz. The auto dealerships, which are extremely profitable and have been a favorite target of the organized groups demanding protection money. Berezovsky arranged his own protection from the Chechens and tried to keep the other groups out of demanding a shakedown.
The Russian groups were not easily discouraged. Group warfare raced. Berezovsky left the country. When he returned he was the target of more than one assassination attempt. The most serious one involved a car bomb. Berezovsky rode into his driver-driven Mercedes with his bodyguard. As his carrier drove a parked car bomb by detonating car. The driver's head was blown away, the bodyguard was severely injured, and Berezovsky was seriously burned. There were other attacks on Logovaz plants, but when the leader of the Russian groups was killed by a car bomb, the attacks stopped.
The auto dealerships were extremely profitable, in part, because of a Berzovsky lawsuit called the privatization of the profits of a state-owned enterprise. Avtovaz produced Ladas at an average price of about $ 4,700 but sold them to autodealers at $ 3,500 per car. The dealers then sold the cars for $ 7,000 each. The underpricing of the cars by Avtovaz came as a result of the control of its management. So Berezovsky shifted the possible profit of the state enterprise out of the enterprise and into the private enterprise of the dealerships. Since such a money-losing business would not have much market value, it would be cheap to buy property. This is the scenario proposed by Berezovsky.
Berezovsky in 1996 declared Paul Klebnikov, the author of the Godfather of the Kremlin,
Privatization in Russia goes through three stages. The beginning is the privatization of profits. The second is the privatization of the property. The third is the privatization of debt.
He left out the essential zeroeth step: gaining control of management. It is this step that allows a company's profits to be privatized, in which, as in the case of Avtovaz, the profits can be brought out of the company by underpricing the product. The profits could just as easily be transferred out of the firm by overpaying for supplies.
Berezovsky went on to acquire ownership of Avtovaz, but there were bigger awards available to occupy his attention like the airline Aeroflot. In the Soviet days when people were asked what the world's largest airline they would be able to find that it was not one of the well known lines but instead of Aeroflot, the single airline serving the Soviet markets.
In the 1990s, Aeroflot was managed by Vladimir Tikhonov. Tikhonov was a competent manager who improved operations with equipment purchased or rented from American and European sources. Aeroflot had to be converted into a joint stock company, in which the Russian state-owned 51 percent and the management and workers 49 percent of the shares. Berezovsky was not interested in buying up shares, instead he wanted management control in order to privatize the profits. Berezovsky used his influence in the Russian government to get Vladimir Tikhonov replaced with a Soviet Air Force Marshal. The Marshal, though knowledgeable about aviation, lacked the knowledge and experience required to operate a commercial airline. Berezovsky imposed management personnel from Logovaz Aeroflot. The air marshal was no match for the Logovaz people. If the Logovaz people were running Aeroflot, it was not long before Aeroflot's profits had migrated to Berezovsky-controlled businesses.
In his 1920s during the 1970s Vladimir Gusinsky started his business career as a cab driver, one with no official sanction and therefore called a Gypsy Cap. He was also involved in black market trading. But by the 1980s he developed some close ties in the communist party. He organized events for the Communist Youth League. Gusinsky also developed an employment relationship with Yuri Luzhkov, the mayor of Moscow. The city of Moscow was not just a city government. They controlled an extensive system of economic enterprises. Under Luzhkov, these companies operated efficiently and profitably.
In 1989 or shortly thereafter, Gusinsky established a bank, which most bank, Russian work for bridge was called. As a result of the union with Luzhkov, Gusinsky's Most Bank was a very important institution in the Moscow economy and one of the largest conglomerates in Russia. His interest in protecting Gusinsky created a security department that employed about 1000 people, many of them formerly employed by the KBG.
As soon as Gusinsky laid the foundations for his financial success, he began to create a middle empire. In 1994 he had a newspaper, weekly news magazine, television guide magazine, radio news station, and the crown jewel of an independent television network.
As a child, Mikhail, Khodorkovsky wanted to be a factory manager when he was growing up. Factory directors were probably the most powerful figures in the lives of ordinary Russians. But being a factory manager wasnt just an idle dream of Mikhail Khodorkovsky. Rather, he pursued his career goal with care. He studied technology in Moscow and was at the same time in the communist youth league (Kommosol) to the point of being the deputy head of the Kommosol Board member active for his educational institute. He learned the protocols of dealing with communist party officials and he developed connections in party organizations.
Despite his careful preparation, Mikhail was denied Khodorkovsky the opportunity to work towards a directorship in the Soviet defense industry. He believed it was because of his family's Jewish origins. He then decided to enter the private sector. His company was named the Center for Young People's Scientific and Technical Creativity, which was soon abbreviated to MENATEP. It first existed as a contributor, the only officially sanctioned form of private company, but later became a bank. Like many other Mikhail entrepreneurs, Khodorkovsky sought quick, high profits that could be gained by importing and reselling computers. Menatep also engaged in various currency exchange trades.
Although some in the Communist Party blocked his road to becoming, a factory manager Mikhail Khodorkovsky got on good terms with many Communist Party officials and went into business with their consent. He was appointed Prime Minister of the Russian Federation as economic advisor in 1990, in the days leading up to the collapse of the Soviet Union. This was a prestigious position and one that gave him important contacts.
When the old order collapsed many state enterprises needed credits while waiting for the new government to establish financial flows. Menatep provided such credit in returns for substantial fees. Regional governments also sought Menatep's services in delivering credit. It was Menatep's relative simple given role as an intermediary in the financial flows between the national government and state enterprises and between the national government and regional government to handle national bank accounts. This work also gave Menatep a network of relationships with government officials who could be called upon when Menatep needed bureaucratic approvals.
When privatization began, Menatep acquired many companies. There wasn't a systematic scheme to Menatep's acquisition other than to snap up any bargain he found. The aggregation of companies was identified as a financial-industrial group. Some in government saw these financial-industrial groups as the appropriate replacement for the socialist industries.
Alexander Smolensky took on an outsider status. His mother's father was an Austrian Jew who fled Vienna for political protection in Moscow. But Stalinist Russia did not treat such political refugees as true comrades. They feared that they were a foreign pollution even if they were religious communists, perhaps especially if they were religious communists, because they were heretics with respect to the current state of affairs. could be correct communal. Thus Alexander Smolensky's mother, who had been born in Austria although she was raised in Moscow, was excluded from most jobs and training opportunities. Life was very hard for the family, especially since Alexander Smolensky's father divorced his mother and left her and her children to survive on their own. Alexander Smolensky developed a lifelong grudge and defiance of the system. He seemed constitutionally incapable of working with the system. When he applied for his official identification document, the so-called internal passport, he might have heard his nationality being so Russian on the basis of his father's nationality, but he chose instead to identify himself as Austrian on the basis of his mother's . Such acts of Defiance shut him out of any career other than as an entrepreneur. But entrepreneurship in the Soviet Union was invalid, and Smolensky lived a hard life.
His two year service in the Soviet Army was served in Tiblis, Georgia. He fought the system in the Army but as he and a friend do so used their access to the Army newspaper's printing service to start an underground business in printing business cards. The business wasn't much, but it enabled them to learn typesetting and the skills that go into printing.
When Smolensky returned to Moscow after his two-year stint in the army, having had to grab his army clearance documents from the desk of the officer who was to hand them over to him, Smolensky continued in the printing business. He found a job as an inspector in the printing department of an industrial ministry. He had to work two jobs to survive and was on the lookout for ways to make money. He realized that in the days of the Soviet suppression of literature, having access to a printing press was a tough thing unsanctioned. People published writing through the tedious process of documents writing a few copies, one original, and as many carbon copies at a time as the typewriter could produce. In addition to being tedious, this was dangerous, but people were willing to do it. Access to a printing press relieved underground writers having to write and retype works. Smolensky printed Bibles among others. Bibles weren't technically subversive stuff, but it was a criminal offense to use state facilities for private companies like Smolensky did.
During this time Smolensky developed and refined his skills in finding and acquiring materials. In the socialist economies the shortcomings are chronic and there is no problem selling production, but capturing the raw materials is the limiting factor. So that while the seller is the key figure in western businesses, it is the raw material purchaser, the procurer, in socialist economies that is the key figure.
Smolensky's invalid printing was reported to the authorities and he was arrested. But instead of being charged with the more serious offense of running an illegal printing operation that bordered on Subversion, he was charged with the ordinary criminal offense of stealing a substantial quantity of ink from the printer. He was sentenced to two years of work on a construction team outside Moscow and banned from having access to money and valuable materials for three years. His career as a printer was effectively ended, but his introduction to the construction field was a valuable substitute.
After his sentence was served Smolensky continued in the construction. His ability to get things done earned him an acceptance as a valuable, effective construction operator. In part, its effectiveness in construction depended upon its abilities in acquiring the necessary materials for construction. Although authorities recognized that Smolensky was a rebel against the system, they found that his organizational skills were valuable in giving them access. And Smolensky's Defiance of the System wasnt so much as ideological as individualistic so he was not looked at as subversive, just a Roughneck.
While the supervisor of a construction team Smolensky had to comply with the policy rules that flowed down the state hierarchy. Gorbachev launches a campaign against alcoholism which required inspectors to report on their punishment of employees for excessive drinking. Smolensky saw the rule to be completely unrealistic but had to give some bogus compliance. First in 1986, there was a campaign against unearned income, that was supposed to curb corruption, but also made a target of the second occupations and small businesses that most Russians had on the side.It was soon recognized that prosecuting people for these side sources of income were a mistake and a law was promulgated stating that Individual work activity was permissible. This opened the flood gates. It was now officially permitted for people to set up stands on the street to sell goods. It wasn't a free market revolution, but it was a step in the right direction.
Precise expression was important. Individual meant that the attitude of others was still forbidden, as contrary to Marxist doctrine. But businesses that could be carried out by an individual with the help of the family member were strictly limited. The authorities decided to remove this limitation within Marxist dogma. It would be good for a group of people to get involved in the firm in appointing a contributor. The senders of the 1988 Act on Contributors put as many restrictions as might be expected on the nature of the licensed cooperative ventures. In particular, the law allowed for the creation of contributors to financial services.
Following the announcement of the law on Smolensky's contributors, administrative superiors appointed him to form a contributor. Smolensky was reluctant at first because it was unclear what the contributor would do and how it would work. But Smolensky registered a contributor named Moscow-3.
With no capital and a free market, the contributor initially got involved in collecting scrap materials. Because the official sources of building materials were bureaucratically allocated, it is difficult to find building materials. Contributor Smolenskys would undertake demolition of the structure and save building materials. Risen from the contributor in the business of building such things as villas, Dachas. Business was good.
After a while the profits had accumulated. Although technically a contributor the firm was effectively Smolensky's business. He was reluctant to keep the profits in the state banks that existed at the time, but in order to carry out business he needed the service from a bank. The banks had or had recently been state bureaucratic agencies. When the contributor went to the bank to conduct some transaction, they would be asked in detail about the contributor's business. The bank's execution of the required services would be dependent upon answering their questions and soon it was necessary to offer gifts and bribes to get the required actions completed.
Smolensky then concluded that the law on contributor permitted the creation of banks as contributors. Smolensky then manufactured his Stolichny Bank. It was the early 1990s, at a time when financial matters were in great turmoil. There was hyperinflation due to the Central Bank of Russia (formerly the Gosbank of the Communist Central Planning System) under the direction of Viktor Gerashchenko creating excessive amounts of money. The laws were uncertain and the future of Russia itself was not agreed. The ordinary bank loan could not be carried out. Stolichny Smolensky's bank had to make policies and strategies as it went along. Probably much of the early operations were on the margins of legality. But the Stolichny Bank survived and profited. Soon Smolensky made the bank the core of his business. And as the financial market of Russia settled down, the operations of Stolichny Bank also became more conventional. But he needed something with more opportunities. He decided to run a construction business. of
Vlaminr Potanin came from a family strong in the Soviet communist hierarchy. His father was a member of the Communist Party Central Committee and served in the Ministry of Foreign Trade. Vladimir Potanin after his university training also joined the Ministry of Foreign Trade. In about 1989 he and associates in the Ministry of Foreign Trade established a trading company, with support from the Ministry of Foreign Trade and elsewhere in the communist hierarchy the trading house succeeded. Its story seems to be related to the channeling of communist party funds into business.
After the success of the trading company Vladimir Potanin began two banks, Onexim Bank and MFK. Many of the state-owned companies put their accounts in these two banks, which became the third and fourth largest banks in Russia. The inevitable suggestion is that Potanin's corporations are the Communist party offshoots representing the old organization sheared from the ideological pretenses.
In 1995, with the support of other oligarchs, Potanin defeated his Loan for shares plan to go to the Council of Ministers of the Russian government. Under this plan, the Russian government traded property share in state industries for loans. The Russian government was extremely short of funds at the time and welcomed the plan. The loans for the share program were exercised in the form of auctions. Only a select set of applicants were invited to these auctions, and Boris Yeltsin's daughter, Tanya, had a strong influence in determining who would be invited.
Mikhail Friedman came from the western Ukrainian town of Lvov, an earlier Polish town acquired by Soviet troops in the part of Poland from Stalin and Hitler in 1939. Mikhail Friedman came from a Jewish family, like four of the other six oligarchs. Mikhail Friedman enter a Moscow higher education facility in Moscow. In the 1980s, the declining years of the communist system, the necessities of life were available without much effort. The living standard was low but, and maybe because of this, people didn't have to put much effort. This was the era marked by an anonymous Soviet citizen who said
They pretend to pay us and we pretend to work.
This period of a low of responsibility combined with reassuring the needs for survival is one that some look back on nostalgic. While the luxuries of life were unavailable, there was free time to read and discuss literature and the arts. In the Soviet system there was support for theater, dance and so on, but the tickets were distributed on a political basis rather than through the market. People who wanted cards needed to have contact with someone they could reach or who could wait in line to acquire them from official sources. Some students made money by buying and reselling tickets or waiting in line for the people. The students who participated in this black market ticket business are known as those Theater mafia. Mikhail Friedman saw the opportunity to systematize these processes. He had the black market tag operations into a real business.
He not only acquired valuable business experience, but he made business partners who joined with him in forming the Alpha Group, a conglomerate that deals in oil, finance and industrial goods trading. He also learned to profit political establishment to get the things he wanted.
The Alfa (Alpha) group was not formed immediately. Instead, Mikhail Friedman was in the form of small business ventures Contributors included. Contributors were permitted under Gorbachev's perestroika policy. One of the first major successes was in providing window washing services for state companies. No one had thought to create such a business before. From this success Friedman and his affiliates moved into importing and exporting. It was very profitable to export oil because the purchase price of oil in the Soviet Union was well below the international price. It was also very lucrative to import computers. Friedman and his associates engaged in both of these activities. But pretending that they had to share their profits by paying bribes to the bureaucrats who controlled the system.
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