Economic History Association

"Weimar on the Volga": Causes and Consequences of Inflation in 1990s Russia Compared with
1920s Germany
Author(s): Niall Ferguson and Brigitte Granville
Source: The Journal of Economic History, Vol. 60, No. 4 (Dec., 2000), pp. 1061-1087
Published by: Cambridge University Press on behalf of the Economic History Association
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"Weimaron the Volga": Causes and

Consequences of Inflation in 1990s Russia
Compared with 1920s Germany
NIALLFERGUSONAND BRIGITTEGRANVILLE
This article offers a comparative analysis of the inflationary experiences of Weimar
Germany and post-Soviet Russia, applying theories about money and govermment
budget constraints in the manner of Thomas Sargent and Francois Velde. The comparison looks beyond economic policy itself to the political and social consequences
ofthe two inflationary crises. The parallel is fairly close: close enough to suggest that
Russia, despite its recent quiescence, may not have seen the end of its monetary-or
political-travails.

The idea that inflation fatally weakened the Weimar Republic retains a
special place in both economic and political history. Ever since the
events themselves, it has frequently been asserted that inflation benefited
only a few profiteering industrialists while stripping the middle class of its
savings, and that this expropriation contributed significantly to the rise of
Hitler.! The counterargument,also advanced at the time and subsequently
echoed by numerous scholars, is that inflationary policies boosted employment, and indeed were the only means of averting even greater social and
political instability.2 Economic historians of this more "Keynesian" bent
have tended to blame the deflationary policies pursued after 1929 for the
collapse of democracy into the National Socialist dictatorship.3The most
recent scholarship has cast doubt on these latter arguments. Costantino
Bresciani-Turroni's early critique, to the effect that inflation succeeded only
in postponing a postwar recession, and then only at great cost to the middle
class, has been substantially vindicated by the work of Gerald Feldman and
others.4Although it is simplistic to draw a direct line of causation from the
The Journal of Economic History, Vol. 60, No. 4 (Dec. 2000). C The Economic History
Association. All rights reserved. ISSN 0022-0507.
Niall Ferguson is Professor of Political and Financial History, Jesus College, Oxford OXI 3DW,
U.K. E-mail: nferguso@netcomuk.co.uk. Dr. Brigitte Granville is Head of the InternationalEconomics
Programme, The Royal Institute of International Affairs, 10 St James's Square, London SW 1 Y4LE,
U.K. E-mail: Bgranvil@dircon.co.uk.
This article draws on material originally contained in Ferguson and Granville, "Sovremennaia
Rocciia." We gratefully acknowledge the comments by three anonymous referees. We have also
benefited from comments by Forrest Capie, Judith Shapiro, and Christopher Granville.
' See the classic account by Bresciani-Turroni, Economics of Inflation; for a summary of the literature, see Ferguson, Paper, pp. 1-30.
2 Graham, Exchange; Laursen and Pedersen, German Inflation; and Holtfrerich, German Inflation.
3 For useful summaries of the debate see Kershaw, ed., Weimar;and Kruedener, ed., Economic Crisis.
4 Bresciani-Turroni,Economics ofInflation; and Feldman's GreatDisorder, in many ways the culmination of a sustained collective researcheffort. For full bibliographical details see Ferguson, "Constraints."

1061

1062

Ferguson and Granville

inflationto Hitler,it is neverthelessclearthatinflationcausedprofound,and

ultimatelyfatal, damageto the Weimarsystem. It gravely weakened the
Germancapitalmarket:fearsof a secondinflationpushedup public-sector
bond yields in the mid-1920s, squeezinglocal governmentinvestmentand
rulingout large-scaledeficit financeas a responseto the slumpbeginning
in 1928.5Its drasticredistributional
effects alienateda wide rangeof social
groups,andnot only thosewho emergedas net losers.6Significantly,one of
Hitler'spledges to voterswas to "see to it thatpricesremainstable.That's
whatmy stormtroopersarefor.Woe to those who raiseprices.... Nothing
similarwill happena secondtime."7
Somewhatsimilarargumentshavebeenmadefor andagainstinflationary
policies in post-Soviet Russia.Deficit finance,by monetaryexpansionor
bondissue, hasbeenjustifiedas a way of avoidinghighunemployment.But
the weight of scholarlyopinion now holds that in Russia, as in Weimar
Germany,inflation'scostshaveoutweighedwhatevershort-termmacroeconomicbenefitsit mayhave offered.Expansionaryfiscal andmonetarypolicies have led to high inflationand ultimatelyto debt default.At the same
time, inflationhas exacteda high social cost, with potentiallydestabilizing
political consequences.8
Of course, WeimarGermanyis only one of many case studies in fiscal
Russiacouldusefullybe
andmonetaryinstabilitywith whichcontemporary
compared,such as the Habsburgsuccessorstatesafter 1918,9 or the more
recentLatinAmericaninflations.'0Butso manyobserversin the 1990s drew
a parallelbetween Weimarand Russia (TheEconomist,for instance, first
evoked "Weimaron the Volga"as earlyas 1993) thatit seems worthwhile
to comparethem systematically.11
This studydrawson ThomasSargentandFrancoisVelde's explanation
of the macroeconomicfeaturesof the FrenchRevolution.'2It therefore
follows closely SargentandNeil Wallace's"unpleasantmonetaristarithmetic," which emphasizes the restrictionsimposed on governmentdeficits
and debt by budget constraintsand compoundinterest. In their model,
permanentlyhigherbudgetdeficits must eventuallybe accommodatedby
increasesin the monetarybase, given a realrateof economicgrowthbelow
the real rate of interest.13
'Balderston, German Economic Crisis; and Borchardt, "Gewicht der Inflationsangst."
Payingfor the German Inflation; and Ferguson, Paper, pp. 419-33.
7Feldman, Great Disorder, p. 855.
8 Granville et al., "Less Inflation."
9 See for instance Sargent, "Ends."
10
See Capie, "Conditions."
" For a review of the literaturecomparing Russia with Weimar, see Hanson and Kopstein, "Weimar/
Russia Comparison."
12 Sargent and Velde, "Macroeconomic Features."
13
Sargent and Wallace, "Some Unpleasant Monetarist Arithmetic."
6Hughes,

"Weimaron the Volga"

1063

In both 1920s Germanyand 1990s Russia,the public budgetconstraint

was tight.The earlyWeimargovernmentsranannualdeficitsof well above
10percentof netnationalproduct(NNP);post-SovietRussia'sdeficitswere
of a similarorder.Justas in Germany,the Russianstate'sflairfor industrial
subsidywas not matchedby its abilityto collect taxes:weak governments
andstronglobbieswere a recipefor redink. Inthe Germancase, the burden
of reparationsweighed heavily on the balanceof payments.In the Russian
case, the externaldebt inheritedfrom the Soviet Union, and the failureof
supinternationallendingagenciesin 1992to providebalance-of-payments
was
replaced
Monetary
financing
problems.
port,createdroughlyanalogous
in 1995 by bond financing, leading to the chain of events predictedby
Sargentand Wallace.The favorablemarketsof 1996/97 could have been
used to provideconvenientbridgingfinancefor a rapidfiscal adjustment,
ratheras mighthavebeenachievedalso in Germanyin 1920/21.Instead,the
Russiangovernment(onceagainlike Weimar's) regardedrisingbondprices
as offering furtheropportunitiesto leverage itself. There is thus a clear
parallelbetween Germany'sdefaulton reparationsin 1922 and Russia's
debt defaultof 1998.
The Germaninflationended only with the balancingof the budget in
1924, which persuadedholders of the new dollar-peggedcurrency(and
foreigninvestors)thata genuine"regimechange"hadtakenplace. Herethe
parallelbreaksdown,forRussia,despitethelongerdurationof its crisis,has
yet to establisha definitivefiscal and monetarystabilization.
INSTITUTIONAL AND POLITICAL BACKGROUND

Defectsof fiscalpolicy cannotbe understoodwithoutreferenceto domestic politicalcircumstances.In both countries,the weaknessesof a new democracyandits institutions,andtheambivalenceofthe elite, impededeffective fiscal reforms.
The WeimarInstitutionaland Political Framework
The WeimarRepublicwas the productof militarydefeatandrevolution.
The unexpectedcollapseof the defacto militarydictatorshipfollowing the
Germanmilitaryreverseson the WesternFrontin August 1918 precipitated
a revolutionon the "homefront."As militarydisciplinecrumbled,a wave
of strikesparalyzedthe economy.PrinceMax of Badenannouncedthe Kaiser's abdicationandhandedovertheoffice of ReichChancellorto the Social
Democrat leader Friedrich Ebert; another Social Democrat, Philipp
Scheidemann,proclaimeda republic.The Social Democratmembersof the
structuresof
new Councilof People's Deputiesrecastthe old parliamentary

1064

Ferguson and Granville

theReich,rejectingcalls fromtheleft fora Soviet-stylepoliticaltransformation. Instead,pragmaticagreementswere reachedwith representativesof

Germanindustryandthe army.A NationalAssembly,electedin early 1919
andconveningin the relativetranquilityof Weimar,drewup a new constitutionthatreplacedtheKaiserwitha popularlyelectedpresidentandmadethe
federalgovernmentaccountableto thedemocraticallyelectedparliament,the
Reichstag.The Reich states(whichlost some of theirpowersto the central
governmentandbecamemereLiinderor "lands")were likewise democratized, as were local authorities.14Thus, althoughthere was considerable
administrativecontinuityfrom the old regimeto the new, fiscal decisions
were now in the handsof elected assembliesat all threelevels.
Thepartiesof the so-called"Weimarcoalition"-Social Democrats,Left
Liberals,and the CatholicCenter-fared badly at the first elections under
the new systemin June 1920, which saw gainsby the Communistsandthe
pressures
Right.Bothpoliticalextremesexertedstrong,extraparliamentary
throughoutthe periodfrom 1919 to 1923. Right-wingelementsin the army
andcivil service,supportedby a fragmentedprotofascistmovement,called
for a more authoritarian
systemand launchedputsch attemptsin 1920 and
1923. Theassassinationof the leadingliberalpoliticiansMatthiasErzberger
and WaltherRathenaualso servedto underminepolitical stability.The far
left resortedto violence as well: therewere abortive"actions"and"risings"
in 1919, 1921, and 1923.
With industrialunrest reachingunprecedentedlevels in 1919 and remaining high until 1923, economic policy was especially susceptible to
demandsfor "socialization."After much debate,works' councils within
large firms were grantedlimited powers. In addition,a Reich Economic
Councilwas createdas a kind of corporateparliamentof economic interests alongsidetheReichstag.And stateeconomicintervention-which had
alreadyincreasedenormouslyduringthe war-was allowed to continue
into peacetime.Price controls,rentcontrols,exchangecontrols,andtrade
controls,all of which had been introducedpiecemeal in wartime,were to
some extentcontinuedin modifiedforms.At the sametime, wages-especially in industriesemployinglargenumbersof workers-were now subject to national collective agreements;if these broke down there were
appeals,sometimesheeded,for statearbitration.Althoughthe highly centralized bodies that had been responsible in wartime for allocating raw
materials ceased to exist, and the industrialcartels that had controlled
production,prices, and exports were significantly weakened, business
associationscontinuedto play a director indirectrole in the political process, as did labororganizations.These various"corporatist"organizations
14 Kolb, "InternationaleRahmenbedingungen";Kluge, Deutsche Revolution; Winkler, "Revolution";
and Bessel, Germany.

"Weimaron the Volga"

1065

and institutions greatly complicated economic policymaking and gave

heavy-industrialinterestgroupsconsiderableinfluence.'5
ImmediatelyafterNovember1918,the GermanDemobilizationCommission's principalconcernwas to ensurethatreturningsoldierswere quickly
absorbedinto the civilianworkforce,andthroughoutthe inflationyearsthe
governmentpaid generoussubsidiesto maintainemploymentlevels. Average unemploymentwas keptlow: 3.7 percentin 1919, 3.8 percentin 1920,
2.8 percentin 1921, and 1.5 percentin 1922. Only in 1923 did it reach a
level (10.2 percent)comparablewiththatexperiencedin Britainin the same
period.16Around 12 billion markswere spent in the fiscal years 1919 and
1920 on shipbuildingprograms,the primaryaim of which was job-creation.17 Therailwaysystemwas also directedto absorbsurpluslabor.As late
as 1923 finns were reluctantto lay off employees,preferringto keep them
on part-time.On average,27.8 percentof tradeunion memberswere on
"shorttime" in 1923, so the level of spare capacity in the economy was
much higherthanthe unemploymentdatawould suggest.
TheRussianInstitutionaland Political Framework
As in the Germancase, so too the Russianstorybeginswith a revolutionarychangein the politicalsystem,which neverthelesspreservedimportant
elementsof the old regime.On 12 June 1990 the RussianSoviet Federative
SocialistRepublic(RSFSR)was proclaimeda sovereignstate,and exactly
one year laterBoris Yeltsinwas elected its president.Following the failed
coup of August 1991, the keystoneof the old orderwas removedwith the
dissolutionof the CommunistPartyof the SovietUnion(CPSU).The Soviet
Union itself was formallypronounceddead on 8 December 1991. Despite
Russianeverthelessinheritedthe 1977
these deep politicaltransformations
Sovietconstitution.By now thisBrezhnev-eratexthadbeenmuchamended;
in particular,a directlyelectedpresidencyandvarioushumanrightsprovisions had been writtenin. But in its essentialsit remaineda firmly Soviet
document,above all in its explicitdenialof any separationof powers:Article 104 statedthat virtuallyall mattersfell within the competence of the
Congressof People's Deputies.Thatbody hadbeen last electedin February
1990, at a time when the CPSU still had effective controlof the country.
This gave an extremelypowerfulinstrumentto the opponentsof reformas
'5Maier, Recasting Bourgeois Europe; Feldman, Iron and Steel and Great Disorder.
16 Bry, Wages in Germany, pp. 398-402. These figures are not based on a modem definition of
unemployment, but are percentages of total trade-union membership. As such, they may conceal
unemployment in sectors (notably commerce and agriculture) where unionization rates were low. On
the other hand, German trade union membership was exceptionally high in this period, so the figures
are less misleading than might be supposed.
" Ferguson, Paper, pp. 280ff.

1066

Ferguson and Granville

long as the old constitutionremainedin force, which it did until late 1993.
One such opponentwas the Union of RussianIndustrialistsand Entrepreneurs,which representedthe managerialelite of the old plannedeconomy;
it and its like claimedthatthe liberalizingpolicies of YegorGaidar'sgovernmentwere destroyingthe country's industrialbase. And indeed, the
industriallobby did much to subvertreform.The fact that enterprisesremainedlargelyresponsiblefor social expenditures(housing,kindergartens,
medical care, and much else), as well as unemploymentinsurance,helped
themobtainlargesubsidies.18As in WeimarGermany,industrialpolicy thus
became a species of employmentpolicy. As a result, duringthe period
1992-1998 registeredunemploymentremainedbetween1.1 and2.6 percent
LaborOrganization(ILO)defiof the laborforce.'9Underthe International
nition,it variedbetween4.8 and 11.9percentforthe sameperiod.But whatever definitionis used, employmentclearlyfell by less thanthe 50 percent
decline in real GDP since 1989 (Figure1).
Low unemploymentfigures, however, concealed dramaticallyfalling
laborproductivity.Moreover,widespreadwage defaultmeantthatmany
jobs were in fact fictitious.20 The power of the new economic elite-the

so-called oligarchs-added seriouslyto the problemsince they controlled

about70 percentof the tax base. Besides using theirpolitical connections
to grab assets, they used the resultingwealth to corruptsenior officials
and thus to place themselves above the law, especially with regardto tax
compliance.21
Otherforcesfrequentlycitedto explainRussia'smacroeconomicinstability areculturalas muchas political:in particularthe moral,social, andinstitutionalwreckageleft by the Soviet system.Corruptionandtax evasion are
often seen as partof this post-Sovietmoralcrisis.But as numerouscontemporarycommentatorsattested,post-WorldWarI Germanywas also rife
with corruption,taxevasion,andcrime,despiteImperialGermany'sreputation for public probity.22There is good reason to see these phenomena as

symptomsratherthan causes of the underlyinginstitutionalproblems. A

simultaneousbreakdownof public financeandthe monetarysystem tends
to undermineboththe ruleof law andthenormsof civil society,by weakening the incentivesfor individualsto obey them. Civil servantswhose real
salarieshave been erodedby inflation,or have not been paid at all, will be
facedwith highnominaltax ratesbut
likelierto acceptbribes;entrepreneurs
weak collectionmechanismswill be temptedto evade; and gangsterswill
18

Boycko and Shleifer, "Russian Restructuring."

19The Russian definition excludes all job seekers who have an alternative sources of income, such

as students and pensioners.

20 Commander and Tolstopiatenko, "Characteristics."
21 See Granville, C., "Political Environment."
22Ferguson, Paper, pp. 430-33; and Feldman, Great Disorder, pp. 555-75.

"Weimaron the Volga"

1067

15
RealGDP(annualpercentchange)
1.

- Unemployment
Rate(Registered)
Rate(ILO)
Unemployment
-

5 51

~~~~~...................
-

0-

FIGURE

RUSSIA: PEAL GDP CHANGE AND UNEMPLOYM ENT 1990}1998

(Percentaae,

annual)

Sozirce: Goskomstat.

take the place of the police and courts in resolving private disputes. That two
societies as different as Imperial Germany and Soviet Russia could succumb
to these maladies wvithinj'ust a few years of a political regime change suggests that they are due as much to defective policies as to moral decadence.
GOVERNMENT

BUDGET

CONSTRAINTS

Both Weimar Germany and post-Soviet Russia were burdened by a high

ratio of debt service to fiscal revenues. But in neither case did the government act on the ratio' s denominator (fiscal revenues), always on the numerator (debt service). In other words, default-in 1922 for the former, 1998 for
the latter-was the preferred way out.
The WeimarBudget Constraint
As a result of the First World War, German public spending had risen
from around 14.5 percent of NNP to a 1917 peak of 77 percent. The bulk of
additional spending was financed by domestic borrowing. After the war, the

Ferguson and Granville

1068

budget deficit remained large. Total Reich spending in 1919 was around 40
percent lower than in 1918, reducing the state's share of NNP from 64 percent to 43 percent;23but Reich revenue had fallen by 50 percent, so that the
government deficit rose by some 24 billion marks, or 173 percent.24The
result was a 44 percent increase in the floating debt. The tax reform program
introduced by Erzberger in 1919/20 was largely unsuccessful. For the tax
reform to work, a major administrativereorganizationwas required, including increased centralization of the federal tax system. This took time, and
inflation could be exploited to reduce the real value of many tax liabilities
since taxes were not valorized until late 1923. Income taxpayers outside the
withholding tax system applied to wages had a strong incentive to delay
payment.25As a proportion of NNP, the Reich deficit fell from its wartime
peak of 58 percent to 18 percent in 1919, but remained excessive thereafter
(16 percent in 1920, 12 percent in 1921, and 9 percent in 1922). Though
inflation had the effect of reducing the internal debt burden in real termsWar Loans and other domestic debt instruments were denominated not in
gold marks but in paper marks-in mid-1921 the internal debt was still
equivalent to around 60 percent of NNP.26 The fiscal breakdown reached its
climax as a result of the campaign of "passive resistance" to the French
occupation of the Ruhr (beginning 11 January 1923). Total public spending
rose by more than 75 percent in 1923 compared with the previous year. At
the same time real revenues plummeted by 74 percent, giving rise to an
unprecedented surge in government borrowing. The total deficit in 1923 was
around 22 percent of NNP, the highest figure since 1918 (Figure 2). In all,
between 1914 and 1923 only around 16 percent of total real Reich expenditures were met by taxation, and more than half the shortfall was financed by
short-term borrowing.27
According to John MaynardKeynes and the majorityof Germancommentators at the time, reparations were the primary cause of inflation in Germany.y2 There is little doubt that the external burden was a heavy one. After
two years of inter-Allied haggling, the London Ultimatum of 1921 demanded a total indemnity of 132 billion gold marks; the initial payment required from Germanywas around3 billion gold marks.29According to German budgetary data, total real expenditure under the terms of the Versailles
23 Witt,

"Finanzpolitik," pp. 424f.

24Roesler, Finanzpolitik.
25

Sargent, "Ends," p. 69.

Gold mark" is the usual expression for the nominal ("paper") mark as deflated by the dollar
exchange rate index to allow for depreciation since July 1914.
27Bresciani-Turroni, Economics of Inflation.
28 See especially Keynes, Economic Consequences.
29
Schuker, "Finance and Foreign Policy," p. 351; Webb, Hyperinflation, pp. 54, 104f.; Holtfrerich,
"Deutsche Inflation," pp. 148f.; Kent, Spoils of War,pp. 132-38; and Eichengreen, Golden Fetters,
pp. 129f.
26

"Weimaron the Volga"

1069

45
40
35
-Genrany

25 -

(% of NNP)

'Russia (% of GDP)

30 ^

1510

"

51
5-

1919
1992

~~
~
~~~~~~~~~~~~~~~~~.........

..

1920
1993

1921
1994

1922
1995

1923
1996

1924
1997

FIGURE 2

GERMAN AND RUSSIAN CENTRAL-GOVERNMENT BUDGET DEFICITS, 1919-1924

AND 1992-1997
(percentage of NNP/GDP)
Note: For Russia, this is the enlarged public sector deficit defined as federal and local governments,
plus extra-budgetary funds, plus unbudgeted import subsidies.
Sources: Sommariva and Tullio, German Macroeconomic History, p. 123; Ferguson, Paper and Iron,
P. 477; and Goskomstat RF, Kratkosrochnye ekonomicheskie, various issues.

treaty in the years 1920-1923 amounted to between 6.5 and 7.6 billion gold
marks, considerably less that the 12 billion gold marks that the Allies had
hoped to receive. But this was still a heavy burden, amounting to more than
80 percent of Reich revenue in 1921.3? In purely fiscal terms, reparations
payments were roughly equivalent to the deficits run by the Reich in the
inflation years.31 Even if one ignores the so-called C-bonds, which were
effectively suspended until German exports had recovered significantly, the
external burden still amounted to around 100 percent of NNP.32The annual
sum Germany was supposed to transferafter 1921 was equivalent to around
7 percent of estimated 1921 national income, or 77 percent of exports.33
30Witt, "Finanzpolitik," pp. 425f.; Holtfrerich, German Inflation, pp. 148f.; Webb, Hyperinflation,
pp. 33, 37, 108; and Eichengreen, Golden Fetters, p. 146.
31 Ferguson, "Constraints," pp. 646f.
32Assuming a reparations burden of 50 billion gold marks (the A- and B-bonds), minus the roughly
9 billion gold marks the Germans had already paid in cash and in kind.
33 Calculated from figures in Ferguson, Paper.

1070

Ferguson and Granville

In Keynes's view, Germanycould not readilyachieve a current-account

surplusout of which to pay cash reparations,andwas thereforeobliged to
buy hardcurrencyby selling papermarks,thus drivingdown the exchange
rate,pushingup importprices and hence the domesticprice level. He and
othersalso saw this as a way of enhancingGermandiplomaticleverage.In
FrankGraham'swords,theview was "byno meanswithoutjustificationthat
improvementin the public finances would lead to still more severe exactions."34Depreciation(andhence inflation)was, accordingto Carl-Ludwig
Holtferich,"inthenationalinterest"-the mosteffectiveway of"persuading
the restof the worldof the need for a reductionof the reparationsburden."35
On the otherhand,Sally Marks,StephenSchuker,and BruceKenthave
arguedthat Germanycould have stabilizedthe currencyand paid more in
reparations,withoutgeneratinghyperinflation,if the Germangovernment
had been willing to depressdomestic demandsufficientlyto generatean
exportsurplus.36Furthermore,help was availablein the form of the large
amountsof privateforeignlendingmadeduringandafterthe inflation.With
exportearningsat low levels, the inflow of food and raw materialscould
onlybe sustainedby creditsfromforeignsuppliers.Between 1919and1921,
Germanimportsfromthe United Statestotaled$776 million, accordingto
U.S. figures;Germany'stradedeficit with the United Statesrose from 246
million gold marksin 1919 to 932 million in 1920 and 1,226 million in
1921-almost equivalentto the entire Germantrade deficit given in the
official Germanstatistics.This was financedpartlyby large-scaletrade
credits, and partly by numeroussmall-scale foreign purchasesof paper
marks.Foreigndeposits at the seven largestBerlin banks rose from 13.7
billion papermarksin 1919 to 41.6 billion in 1921, accountingfor almost
a thirdof totaldeposits.Purchasesof Germancurrencyin New Yorktotaled
60 million gold marksbetween July 1919 and December 1921. At the
same time, mark-denominated
bondsbecamea popularinvestment.There
was a net capitalinflow to Germanyof around13 billion gold marksin the
years 1919to 1923,withthe lion's sharecomingin 1919, 1921, andthe first
half of 1922. In the firstmonthsof 1921 the effect of these capitalinflows
was to fundthe tradedeficit, stabilizethe mark'sexternalvalue, and stop
inflation-creatingprobablythebestopportunityof theperiodforsomekind
of enduringstabilization.38
Inthemiddleof 1921,however,depreciationresumed:themarkfell from
62.3 per dollarin May to 262 in November.This was primarilya consequenceof the flightof Germancapital,triggeredby the LondonUltimatum.
34Graham,Exchange,pp. 4, 7-9, 11, 30-35, 248, 321.
3

Holtfrerich,"DeutscheInflation,"p. 327.

36 Marks,"Myths";Schuker,"Financeand ForeignPolicy";and Kent,Spoils of

37 Webb,Hyperinflation,
p.
38

57.
Ferguson,"Constraints."

War.

"Weimaron the Volga"

1071

100
90
8070

Germany
Russia

60 50

403020 -

10

-10
-20
-30-40-50
Jan.1919
Jan.1992

Jan.1920
Jan.1993

Jan.1921
Jan.1994

Jan.1922
Jan.1995

Jan.1923
Jan.1996

Jan.1924
Jan.1997

Jan.1998

Jan.1999

FIGURE3
GERMANAND RUSSIANEXCHANGE-RATEDEPRECIATION,1919-1923 AND
1992-1999
(percentage, monthly)
Sources: For Germany: Statistisches Reichsamt, Zahlen zur Geldentwertung, pp. 5, 16f; and
Holtfrerich, German Inflation, p. 17. For Russia: Moscow currency-exchange data.

At this stage, Keynes's pessimism about the mark was exceptional among
foreign investors, judging by the forward exchange rate in London, and
figures for purchases of marks in New York. A last flicker of foreign hope
accounts for the temporary halt to depreciation from December 1921 to
February 1922. But thereafter the final wave of depreciation struck, especially after the assassination of Foreign Minister Rathenau (24 June 1922).
After the initial "learning period" of 1919, domestic prices kept pace with
currency depreciation. Public expectations of a complete collapse of the
mark were expressed in bouts of rapid depreciation against the dollar (Figure 3), and in roughly synchronized leaps in domestic prices. In view of the
large mark-denominatedforeign loans that were wiped out by depreciation,
Schuker has estimated that American "reparations"to Germany exceeded
the official reparations Germany actually paid to the Allies.39
At around a year's NNP at the time of the 1921 London Ultimatum, Weimar's external burden was heavy; but not quite as impossible to service as
Keynes claimed. As a proportionof national product, the annual transferwas
3 Schuker,"American'Reparations'."

1072

Ferguson and Granville

Moreover,foreignfinancewas availableto smooth

not withoutprecedent.40
the paymentso thatthe entireburdendid not have to fall on currentconsumption.The realproblemwas thatsuccessivegovernmentsmadeso little
effortto move towardsfiscal andmonetarystabilization.
TheRussianBudget Constraint
Due to grotesqueresourcemisallocation(fueledby the demandsof perceived Cold Warthreats,thoughin fact inherentin centralplanning),"Soviet growthover 1960 to 1989 was the worst in the world afterwe control
In 1985 the USSR embarkedon an
for investmentand humancapital.",41
"accelerationpolicy,"consistinglargelyof massivecapitalinfusionsintothe
ageingmachine-toolsector.The Sovietbudgetdeficitrose as a result,from
about2 percentof GNP in 1985 to 9-10 percentin 1989.42 Initially,this was
financedthroughloans from foreigninvestorsand governments,reducing
the need for large-scalemonetaryfinancingof the deficit but raisinggross
externaldebt from $20 billion in 1985 to $96.8 billion at the end of 1991
(Table1). AbouthalfthisborrowingcamefromWesterncommercialbanks,
which tendedto keep theirloans short-termand at high ratesof interest.
In the autumnof 1991, as the SovietUnion crumbledandBoris Yeltsin's
newly-formedRussiangovernmentunveiledradicaleconomicreformplans,
the G7 countrieshurriedlysent deputyfinanceministersto Moscow to secure official pledges that Yeltsin would honor Soviet debts. He agreed.
controlledprices
Whilethecost of statesubsidiesto supportadministratively
(includingthe exchangerate)mounted,the declinein measuredoutputcontinued,andpaymentsfromtherepublicsto thecenterevaporated.By the end
of 1991, Gosbank'sreserveshad been exhausted,gold reserveshad been
dissipated,and centralstategrainreserveswere practicallynonexistent.In
December1991 the Soviet Vneshekonombank,which was responsiblefor
the country'sexternalobligations,declaredbankruptcyanddefaultedon all
its liabilities,includingshort-termtradedebts.
hnmediatelyafterthis debacle,thenew Russiangovernmentbeganimplementingits economicreformprogramunderthe directsupervisionof Prime
MinisterGaidar.ThispromptedtheleadingWesterngovernmentsto promise
substantialaid, to be releasedonce Russiahadagreedon a programwith the
IMF.But thatconditionin practicemeantseveralmonthsdelay;meanwhile
the window of domestic-politicalopportunitywas rapidlyclosing. In April
1992, afterfourmonthsof radicalreform,the governmentwas hardpressed
to survive a hostile backlashat the Congressof People's Deputies.These
40White "Makingthe FrenchPay."
41 Easterlyand Fischer,"SovietEconomicDecline,"abstract.
42
Lin, "MonetaryModel,"p. 369.

1073

"Weimaron the Volga"

TABLE1
RUSSIA'S EXTERNAL GOVERNMENT DEBT, 1991-1998
(US$ billions)
1991

1992

1993

1994

1995

1996

1997

1998

62.2
32.9
1.7
96.8

69.2
34.0
1.7
104.9

68.1
34.0
1.6
103.7

69.9
37.0
1.7
108.6

62.6
39.3
1.1
103

61.9
38.8
0.1
100.8

56.9
33.9
0.1
91.4

59.5
35.2
0.0
95.2

Multilateral loans
Official loans

0.0
0.0

1.0
1.8

3.5
5.5

5.4
5.9

11.4
6.0

15.3
7.9

18.7
7.6

26.0
9.7

Bonds

0.0

0.0

0.0

0.0

0.0

1.0

4.5

16.0

0.0
96.8

2.8
107.7

9.0
112.7

11.3
119.9

17.4
120.4

24.2
125.0

32.1
123.5

51.9
147.1

Federaldebt
FormerUSSR debt
Official loans
Commercial loans
Bonds
Total

RussianFederationdebt

Total
Total federal debt

0.0

0.0

0.0

0.0

0.0

0.0

1.1

2.2

96.8

107.7

112.7

119.9

120.4

125.0

124.6

149.3

Subnationalgovernmentdebt
Total government debt

Source: OECD, Economic Surveys, table 6, p. 67.

worryingdevelopmentsinducedthe Westto specify its aid commitment(at

$24 billion) in advanceof thatsummer'sG7 summitin Munich,to which
Yeltsinwas invited.However,nothingconcreteresulted.Gaidarstruggled
on in an increasinglyadversepoliticalclimatefor a furtherseven months.
In thatperiod,none of the promisedassistance-an IMF standbyarrangement (SBA), a $6 billion exchangestabilizationfund, an official debt reschedulingdeal-materialized, with the exceptionof an interimIMFcredit
of $1 billion, disbursedin August 1992 solely to boost externalreserves.43
During the Congressof December 1992, Gaidarwas replacedby Viktor
Chernomyrdin.
Playinga role analogousto thatof Keynesin the Weimardrama,Jeffrey
Sachs publishednumerousarticlesarguingthat financialaid, had it been
deliveredin 1992 as promised,would have helped Russiato stabilize and
Such aid would have allowed
achieve a successful overall "transition."44
Russiato escapeIMFdemandsfor fiscal stringency,therebypermittingthe
transferto thebudgetof social spendingpreviouslymanagedby enterprises
themselves(with the help of directedcreditsfrom the CentralBank). But
this opportunity,Sachsargued,hadbeen squandered.
It is at least debatablewhetherlarge-scaleforeignassistance,had it been
underlie
forthcoming,wouldhavehadthedesiredeffect.Twoconsiderations
such doubts.First, the structuraldistortionsthat needed correctingwere
deeplyrootedin decadesof centralplanning.Littleof the industrialbasewas
commerciallyviable, andchangingthis requiredmore thanunprecedented
supportforthe Russianbudgetby foreigntaxpayers.It also meantthe intro"4 See

Granville, Success.
" Sachs, "Russia's Struggle."

1074

Ferguson and Granville

ductionof the institutions,structures,practices,andultimatelythe attitudes,

of free economic relations.Secondly,at this earlydatethe generallyunreconstructedSoviet elite lackedpolicymakingskills and,more importantly,
failed to acceptthe implicationsof the transitionand its irreversibility.
All conjecturesaside, the fact remainsthat Russia launchedits reform
efforts with a large financing gap resultingfrom the Soviet debt it had
inherited-loans, it shouldbe recalled,thatthe West had extendedto the
system of centralplanningfromwhich Russiawas now tryingto extricate
itself. Inthatsense,thereis an approximateanalogybetweenthereparations
burdenimposed on the WeimarRepublicto cover the cost of a war the
previous Germanregime was accused of starting,and the external debt
burdenthe Russiangovernmentinheritedfromits Sovietpredecessor.Refinancingwas impossible,since access to internationalcapitalmarketswas
blocked following the December1991 defaulton foreignbank debt. With
the capitalizationof unpaidinterest,Russia'sexternaldebtburdenmounted
rapidly(Table1).
The severityof the burdenwas at least acknowledgedin long-termreschedulingagreementsconcludedwith the ParisandLondonclubs of official andcommercialcreditors,respectively.In April 1996 a comprehensive
reschedulingwas agreedto with ParisClub creditors,coveringabout $38
billion of debt; and in December 1997 a 25-yearreschedulingagreement
covering approximately$24 billion was reachedwith the LondonClub.45
However, the collapse of RussianGDP in dollarterms (from about $430
billion to less than $130 billion), as a resultof the 1998 rubledevaluation,
left Russiaunableto make even these reducedpayments.The ratio of foreign debtto GDPincreasedfrom26 to 113percentbetweenDecember1997
andDecember1998-higher thantheGermanreparationsburdenof 1921.46
If the full $17.5 billion due in 1999 had been paid, this would have cost
Russia about 80 percentof plannedtax revenue,not much less than the
Allies expected Germanyto pay in 1921. Russia was thereforeforced to
applyto both creditorclubs for furtherdebtrelief.
In February2000 the LondonClubfinallygranteda 36.5 percentreduction in Russia's private-sectordebt of $31.8 billion. The remainderwas
rescheduledover 30 years,withno principalrepaymentsduefor sevenyears,
duringwhich periodRussiawas to pay interestat barelycommercialrates.
Butthe ParisClubwas muchmorereluctantto forgivedebt,especiallyas the
commodityprice slump that had contributedso heavily to Russia's 1998
"4 Russia has also joined the Paris Club as a creditor country. This may help her to recover at least
a fraction of her massive claims (about $130 billion) on developing countries (India, Iraq, Libya,
Vietnam, Yemen, Cuba, and many others).
46 OECD, Economic Surveys, p. 66: Part of this increase is also explained by a buildup of $23.6
billion in debt during 1998. This consisted of commercial borrowing, Eurobond issues, and payment
arrears on the former Soviet debt.

"Weimaron the Volga"

1075

financialcrashhadbeenfullyreversedby 2000, considerablyboostingdebtservice capacity.

Yet the underlyingcauses of the 1998 debacle,as for the wider failures
of Russia's transition,are to be foundnot in the actionsor inactionof the
Westernpowers,but inside Russiaitself. These domesticfailurestoo were
similarto the ones observedin WeimarGermany.
It was not only externaldebtservicethatcausedRussianbudgetdeficits.
Totaldebt at the end of 1997 was about55 percentof GDP,of which only
aroundhalf was foreigndebt. Domestic debt amountedto 28.4 percentof
GDP, around14 percentof which was in the form of short-termtreasury
bills (GKOs)andlonger-termpaper(OFZs).47The failureto tacklethe domestic componentof the budget deficit can largely be explained by the
levels of tax arrears,tax exemptions (about 7 percentof GDP), and tax
evasion-in otherwords,by the shrinkingof the revenuebase.48Successive
governmentsfailed to generatethe politicalconsensusnecessaryto reform
a system largely inheritedfrom the Soviet era, when the tax burdenfell
mainlyon largestateenterprises.
As in the Weimarcase, tax arrearsare easily explainedby the TanziOliveraeffect:high inflationduringthe period 1992-1994 allowedtaxpayers to exploit time lags betweenthe calculationandpaymentof tax liabilities, which in turn reducedreal tax revenues,hence increasingmonetary
financingrequirements(giventhe lackof alternatives).Moreover,as Albert
Fishlow and JorgeFriedmanhave shown, inflationandrecessionboth encouragetax evasion;together,theygo farto explainwhy the Russianbudget
was consistentlyabove 5 percentof GDP duringthe 1990s (Table2).
THE LIMITS OF DEFICIT FINANCING

The immediatecause of hyperinflationin Germanyandhigh inflationin

Russia was the financingrequirementof these large budget deficits. Of
particularimportancewas the way the two centralbanksacted.
Hyperinflationin Weimar
On 31 July 1914, having lost gold in the amountof 103 million marks
in the space of a week, the Reichsbankillegally suspendedgold converti-

47 Domestic indebtedness of the Russian government consists of state treasury bills (GKOs), Federal
Loan Bonds (OFZs), ruble-denominated savings bonds (OGSZs), restructured domestic foreign-currency debt of the USSR (OVVZs, known as Taiga bonds or MinFins), and securitized arrears on
centralized credits to the agricultural sector and the Northern regions.
48 According to Grafe and Richter ("Taxation"), "Non-payment of taxes to the consolidated budget
grew from around 3.4 percent of monthly GDP in January 1993 to some 80 percent of monthly GDP
by mid-1997"; see also EBRD, Transition Report 1997, p.121.

1076

Ferguson and Granville

TABLE2

RUSSIANFEDERALBUDGET,1993-2000
(percentageof GDP)
BudgetLaw

Actual
1993

1994

1995

1996

1997

1998

1999

1999

2000

-2.6
-1.1
-1.7
-4.9
-5.4
-7.9
-6.8
-15.6 -10.6
Overall balance
3.2
1.6
1.9
-1.1
-2.2
-2.8
-2.4
-8.8
-13.8
Primary balance
11.8 14.9
13.3
12.6
10.1
13.0
11.8
12.9
11.9
Revenue
11.6
9.0
9.2
10.0
of which cash
-28.5 -22.5 -18.6 -19.9 -20.0 -15.1 -15.0 -14.4 -16.0
Expenditure
-4.2
-4.1
-3.6
-3.9
-5.9
-4.6
-3.1
-1.8
-1.8
Debt service
-2.4
-3.7
Domestic
-2.2
-1.5
-4.0
-3.5
0.0 -0.2
Of which GKO/OFZ

Foreign
Noninterest
Real GDP growth (percentage)

-26.7

-20.7

-15.5

-14.0

-8.7

-12.6

-4.0

-3.4

-0.9

-1.5

-15.4

-11.2

-11.4

-4.9

3.2

0.9

-10.2

-11.9

Source: IMF.

bility. This action was retroactively legalized four days later. New rules
were introduced which allowed the Reichsbank to monetize not only government bonds and treasury bills, but also new State Loan Bank notes
issued by wartime credit institutions. Under these arrangements the narrow
money supply (currency in circulation or MO) increased sevenfold by
November 1918.
Already by the middle of the war the government was encountering difficulty in funding its deficit through bond sales to the public; by the time of
the last War Loan in 1918, only around a fifth of the floating debt (mostly
treasury bills) could be funded.49In the postwar period nearly all new borrowing was financed by issuing treasury bills, which the Reichsbank discounted at negative real interest rates. From July 1917 until October 1921,
between a third and a half of the nominal value of treasurybills was held by
the Reichsbank.50
Significantly, the wartime President of the Reichsbank, Rudolf
Havenstein, remained in office throughout the period of inflation.
Havenstein consistently feared a postwar "credit shortage." Only in July
1922 was the Reichsbank's discount rate increased-for the first time since
the outbreak of war-from 5 percent to 10 percent, in fortnightly steps beginning on 28 July. This was too little, too late to be effective, as were subsequent increases in January1923 (to 12 percent) and April of the same year
(to 18 percent). When the number of bankruptcies had risen in the first half
of 1921, the Economics Ministry had drawn up a plan to create a state "Eco-

49Holtfrerich,Inflation,p. 117.
0 Ibid., pp. 67f.

"Weimaron the Volga"

1077

nomic Bank"which would directandallocatecreditto "firmsof essential

importanceto the nationaleconomy.""1
But this provedunnecessaryas the
Reichsbankitself, despitebeingmadeformallyindependentof the government in May 1922, continuedto providecreditsto heavy industry,openhandedlydiscountingcommercialbills.52AfterDecember1922public-sector
borrowingonce again swelled the monetarybase as a result of the Ruhr
conflict.Thistime, however,a risingproportionof treasurybills remained
in the handsof the Reichsbank(from68 percentin July 1922 to 93 percent
a yearlater).Themonthlyrateof growthof MOspiraledupwardsfrom 12.4
percentin July 1922 to 76.8 percentin February1923, havingneverpreviously risenabove 20 percentandonly rarelyhavingexceeded 10 percent.
Havingbeenrepressedby pricecontrolsduringthewar,inflationbecame
more severefromthe middleof 1919 onwards.Betweenthe armisticeand
March1920thewholesalepriceindex(WPI)rose sevenfold.Betweenmid1921 and mid-1922, the WPIrose by a factorof roughlyfive. Thereafter,
hyperinflation-definedby PhilipCaganas upwardsof 50 percentinflation
per month-set in (Figure4). The completecollapseof the currencycould
now no longerbe averted.53
The exchangeratesometimesled and sometimeslaggeddomesticinflation.Inpartthisreflectedtheinconsistentenforcementof exchangecontrols,
which were never sufficientto check domesticpurchasesof dollars as a
hedge againstdepreciation.It also reflecteddivergencesin foreignanddomestic expectations.54
Up untilmid-1922,for example,domesticinvestors
seemto havebeenmoregloomythanforeigninvestorsaboutthe chancesof
an eventualcurrencystabilization.The decisive influenceon expectations
seemsto havebeenpoliticalnews thatimplieda reducedlikelihoodof fiscal
In June 1922, in particular,the failure of proposals for a
stabilization.55
internationalloan to Germanyand Rathenau'sassassinationseem to have
dealtthe fatalblows to foreignconfidence."6
It was only in late 1923, by which time the papermarkwas effectively
worthless,thateffective stabilizationpolicies were put in place. However,
even after Havenstein'sdeath in November 1923, stabilizationwas less
easilyachievedthanis usuallyrealized.Contemporaries
tendedto look back
on the introductionof a new currency(theRentenmark)in November1923
as markingthe endof the inflation.Thisis not quitetrue.Thecollapseof the
51

Ferguson, Paper, pp. 289f; see also Feldman, "Political Economy."

52Feldman, Iron and Steel, pp. 131, 315f.; and Webb, Hyperinflation, pp. 123f.
53 Inflation as rampantas Weimar's is difficult to measure, and different indices can legitimately be
used, such as wholesale prices, consumer prices, or exchange rates. Whichever is adopted, it is clear
that Germany experienced unprecedented inflation after the First World War, culminating in hyperinflation from mid-1922. See Cagan, "Monetary Dynamics."
54H oltfrerich, Inflation, pp. 75-78.
55Webb, "Fiscal News."
56
Webb, Hyperinflation, p. 57.

Ferguson and Granville

1078
300
280
260 -

WPI, Monthly Percent Change

- - - Reichsbank Discount Rate

240 220 200

London

180 -

Ultimatum

Reichsbank
Granted Rathenau
Independence Assassinated

Ruhr
Occupation
Begins

4160
01
60

140120100
806040
-20

Jan.
1919

July
1919

GERMANY:

Jan.
1920

INFLATION

July
1920

Jan.
1921

July
1921

FIGURE 4
AND REICHSBANK

Jan.
1922

DISCOUNT

July
1922

Jan.
1923

July
1923

RATE, 1919-1923

(percentage)
Source: Holtfrerich, German Inflation, pp. 17, 52ff.

Reichsmarkcertainlymadea currencyreformnecessary,buta new currency

mightwell have gone the way of its predecessorhad therenot been a decisive "regimechange."Thistookthe form,first,of a temporaryendto parliamentarygovernment(aftera periodof politicalchaos):thekey reformswere
enacted under emergencyEnablingActs (passed on 13 October and 12
December).Secondly,HjalmarSchacht,firstCurrencyCommissionerand
then Presidentof the Reichsbank,pegged the Reichsmarkat 4.2 trillionto
with the aim of puttinga
the dollarandestablisheda new Golddiskontbank
new Reichsmarkon the gold standard.(The Rentenmarkwas importantfor
domesticpaymentsat thisjuncture,but hadno internationalfunction.)The
budgetwas balancedby a series of EmergencyTax Decrees passed by the
new FinanceMinisterHansLuther(7 and 19 December),by the decreeof
27 Octoberwhich cut the numberof Reichemployeesby 25 percent,andby
assets.
thedecreeof 14 February1924which"revalued"variouspaper-mark
But only when Schachtimposeda strictcreditfreeze on 7 April 1924, defeatingrenewedspeculationagainstthe currency,were the old inflationary
tendenciesfinally stampedout. In the succeedingfour months,the money
supplystabilized,short-terminterestratesrose to 45 percent,andpricesfell

"Weimaron the Volga"

1079

by 7 percent. Finally, a new international agreement, the Dawes plan, rescheduled Germany's reparationsand arrangedan international loan of 800
million gold marks.57
High Inflation in Russia
Russia's experience to date has not been so extreme. The initial price
jump following decontrol was very large due to the monetary overhang and
inflationary expectations: in January 1992 producer prices rose by 382 percent, consumer prices by 296 percent.58But the subsequent high monthly
inflation rates were due to fiscal and quasi-fiscal expenditures and the way
they were financed.
Three periods are distinguished in Table 3 and Figure 5. The first, January
1992 to July 1995, saw large budget deficits financed by money creation,
with the head of the Central Bank of Russia (CBR), Viktor Gerashchenko,
playing an accommodating role similar to that of Havenstein at the Reichsbank. The average real interest ratewas negative, reflecting high and volatile
levels of inflation and the lack of investment alternatives. Investors faced the
choice between holding their liquidity in cash and bearing the full brunt of
inflation, or investing it in foreign exchange or in ruble-denominated government debt. Inadequate foreign-exchange reserves (less than a month of
imports) made the provision of the $6 billion stabilization fund an essential
condition for an exchange-rate-based stabilization program to be put in
place. In the absence of this, a flexible exchange-rate regime was retained
until July 1995.
At first the CBR had only direct monetary instruments at its disposal:
directed credits and mandatory reserves. The market for treasury bills did
not come into existence until May 1993; demand was at first very thin, both
because of high inflation (and the resulting capital flight) and because foreigners were denied access. Central-bankcredit auctions, designed to provide short-term liquidity to the banking system on market terms, began in
February 1994. But despite its shortcomings, the money-based stabilization
program forced the authorities to reduce the budget deficit. Failure would
bring almost immediate inflation (the lag between money growth and an
increase in the price level being about 3 months),59and it quickly became
clear that both voters and the nascent financial markets were averse to this
prospect. "Black Tuesday"(11 October 1994), for instance, saw a 27 percent
fall of the ruble exchange rate against the U.S. dollar as a result of an exces-

57Ferguson,Paper, pp. 393-407.

58This latteris the "urbanpricechange";the so-calledhybridCPIrose 245 percent.See Koen and

Phillips,"PriceLiberalization";
Koen,"Measuringthe Transition";
andGranvilleand Shapiro,"Russian InflationStatistics."
" Granville,Success.

Ferguson and Granville

1080

TABLE3

RUSSIAN INFLATION,1992-2000: SUMMARYSTATISTICS

(annualpercentagechangein CPI)

Mean
Median
Maximum
Minimum

Standarddeviation

Jan. 1992 -July 1995

Aug. 1995-July 1998

Aug. 1998-April 2000

21.6
15.2
296.0
4.6

1.6
4.7
4.7
-0.3

4.8
2.4
38.4
0.7

43.5

1.5

8.2

Source: Goskomstat.

sive increasein M2 to financethe budgetdeficit.The event sparkeda political crisis and governmentreshuffle,leadingto a renewedcommitmentby
Chemomyrdinandhis ministersto a pro-stabilizationstrategy,andto Gerashchenko'sdismissalfromthe CBR.An SBA creditbackingan IMFstabilizationprogramwas signedon 26 March1995,andin Aprilthe CBRbecame
formallyindependent,creatingan institutionalseparationof monetaryand
fiscal policy.
Inthe secondperiod,August 1995to July 1998,priceswere stabilizedby
replacingmonetizationwith borrowing.Publicdebtgrew even as the economy shrank:by 1997 treasurybill (GKO/OFZ)financingamountedto 4.6
percent of GDP, comparedwith 3.1 percent in 1995, and 71 percent of
public-sectorborrowingcomparedwith 58 percenttwo yearsbefore.By the
end of thatyear treasurybills accountedfor half of total Russiandomestic
public debt.60
Unlike in the 1992-1995 period,the real interestrate was now consistentlypositive, and indeedhigh. Nominalinterestratesvariedbetween 1.4
percent and 8.8 percentper month, while inflationvaried between -0.3
percentand4.7 percentpermonth.The floatingexchangeratewas replaced
with a crawling-pegregimein July 1995.
The rapidbuildupof the GKO/OFZmarketin 1995-1997 coincidedwith
recordcapitalflows into emergingmarkets.The mainactorsin this market
were graduwereforeigninvestors(restrictionson nonresidentparticipation
the
the stateand
1996
and
January1998), CBR,
ally liftedbetweenAugust
controlledSavings Bank (Sberbank)acting for the Ministryof Finance,
which togetheraccountedfor about 60 percentof the market.Given the
inadequacyof domesticdepositsin the bankingsystem, the budgetdeficit
had to be fundedto a significantextent by foreign purchasesof treasury
bills. By thetime of the outbreakof the Asiancrisisin October1997, foreign
investorsaccountedfor about30 percentof a marketwhose face value had
grownto over $60 billion (fromabout$40 billionin October1996 and $12
60 Goskomstat,Kratkosrochnye
ekonomicheskie,variousissues.

1081

"Weimaron the Volga"

40
Inflation Rate

-Monthly
35

First
Chechnya
War

30

Gaidar

Black
Tuesday

Reappoiated

IMF
approves

25 -Sj

- - - GKO Yield
Collapse of
Interbank
Market
Presidential

Domestic

Monetization

Default and
Devaluation

of Deficit
Resumes

Elec1ion

20 15

10

May
1993

May
1994

May
1995

May
1996

May
1997

May
1998

May
1999

April
2000

FIGURE 5

RUSSIA: INFLATION AND YIELD ON SHORT-TERM PUBLIC DEBT, 1993-2000

(percentage)
Source: Goskomstat.

billion in 1995). That share remained broadly stable during the subsequent
decline of the market, which culminated in the August 1998 default. The
vulnerability entailed by this dependence was aggravated by the fact that
more than half the domestic debt was very short-term. By the time of its
collapse in 1998, the domestic treasury-bill market-with a face value of 14
percent of GDP-had an average durationof only 280 days. Short-termdebt
at the end of June 1998 was nearly four times as large as official foreignexchange reserves.
Foreign risk-hunger was replaced by risk-aversion after the Asian crisis.
As Asian banks suffered losses on lending at home, they sold their holdings
of Russian high-yield bonds to improve their liquidity positions, putting
pressure on the ruble and on the bond market. The monetary authorities
sought to defend the ruble by raising the refinance rate, first in mid-November 1997 from 21 percent to 28 percent, then in February 1998 to 42 percent,
and in May 1998 to 150 percent. This rate acted as an effective cap on the
treasury-billyield and so signaled the level at which the CBR would support
its price. The calculation was that inflows would be attracted by the high
nominal yields on ruble-denominated debt and the promise of a stable ex-

1082

Ferguson and Granville

change rate. Investors, however, were less attractedby this prospect than
they were deterred by the present reality of ever-higher interest rates in the
face of low-to-zero growth prospects, which created doubts that the government could afford debt-service costs reaching 40 percent of federal expenditures in May 1998.
In this environment all demand, domestic and foreign, for new issues of
ruble-denominated treasury bills disappeared. The government could no
longer pay debt with debt. Every week some 9 billion rubles ($1 billion) of
debt matured, and these now had to be financed out of general revenues. The
problem was exacerbated by a fall in oil prices and a rise in imports, which
together led to the first current-account deficit since 1993, while putting
furtherpressure on fiscal revenues. The IMF-led rescue package agreed on
in mid-July 1998, though worth some $22.6 billion, failed to reassure investors and thereby to bring interest rates low enough to achieve a major expenditure reduction. Given the impossibility of sufficiently drastic cuts in noninterest expenditure, on 17 August 1998 the government announced its
decision to default on its domestic debt and devalue the ruble.
In the third period, covering August 1998 to the present (April 2000),
the current account strengthened rapidly thanks to the recovery of exportcommodity prices and the devaluation, reaching a surplus of 20 billion
rubles in 1999. Real GDP growth was 3.2 percent. The fiscal situation was
consolidated, with the primary budget reaching a surplus of 1.9 percent of
GDP, compared with the 1.6 percent targeted in the Budget Law (Table 2).This, of course, altogether obviated the moral hazard of monetary financing. The crisis of the domestic banking system following the devaluation,
which had left many banks with foreign obligations many times greater
than their capital, had led to calls for public bailouts and thereby opened
another temptation for monetary expansion. This temptation too was resisted, however. In 1999 annual inflation fell to 36.5 percent, compared
with 84 percent in 1998. The forced restructuring of the government's
domestic debt meant that its estimated ratio to GDP fell from 28 percent
at the end of 1998 to 18.4 percent by mid-1999.61
Nevertheless, it is too early to conclude that Russia has avoided the hyperinflation trap into which Weimar Germany fell. The real domestic debt
burden was falling in Germany too by 1922; but the external debt burden
represented by reparationsand private-sector borrowing remained a powerful source of instability. In the Russian case, the continuing growth of the
external debt burden, and the excessive proportionof the budget required for
its service, still pose a grave threat. The federal government's external debt
was around 93 of GDP percent in 1999, compared with 32.6 percent just
three years before. More than 36 percent of cash revenue was spent on debt
service in 1999.
61 OECD, Economic Surveys, p. 65.

"Weimaron the Volga"

1083

CONCLUSION

This article has comparedthe causes and effects of high inflation in Weimar Germanyand the Russian Federationin the 1990s. The model used by
Sargentand Velde for post- 1789 France has been shown to have relevance
for both the Germanand the Russian experiences. The principal sources of
inflationarypressurewere the governmentbudget constraintand the monetary expansion that flowed from it.
The parallel is of course inexact: Russia has not yet experienced hyperinflation on the scale of WeimarGermany.In part this reflects the way monetarypolicy has been tightened since the 1998 default. But Russia has not yet
succeeded in stabilizing fiscal and monetarypolicy as Germanydid in 1924.
Of course, Russia did not have to pay reparationsto the victors of the Cold
War, and this might be held to invalidate the comparison. But Russia did
inherit a large external debt from the Soviet regime, and has since added to
that burden considerably.In contemporaryRussia, as in Weimar Germany,
a large external debt has undoubtedly made internal adjustment harder,
despite large inflows of foreign capital.Negotiations with the creditorclubs
over Russia's externaldebthave come to occupy the same position occupied
in the 1920s by haggling over reparations.
Inflationarypolicies had similarly distortingeffects on the real economy.
In Weimar Germany, subsidies to traditionalsectors were used to conceal
unemployment. But negative real interest rates stimulated investment less
than was once thought, while there is some evidence linking the subsequent
problems of the German capital and labor markets to the distortionaryeffects of the inflation.62In Russia too, workers were anxious to stay in the
formal sector, working short hours at low (or no) wages in order to retain
their official connection to their enterprisesand the accompanying benefits.
But their real activity shifted to the shadow economy, progressively shrinking the tax base. In both cases, the excessive power of heavy-industrial
lobbies was a significant factor in generating fiscal deficits.
Inflationarypolicies also had damaging social effects. By the time of the
monetary reform and the stabilization in early 1924, large sections of the
Germanmiddle class had seen their savings andpensions wiped out, and the
real differential between their salaries and workers' wages dramatically
reduced.63Of course, the social structureof post-Soviet Russia has little in
common with that of post-Wilhelmine Germany. Nevertheless, there are
some parallels here as well. In Russia, the principal losers in the high inflation of 1990-1994 (repressed until 1992) were those with large sums in
savings accounts, those dependent on pensions, and those on professional

62
63

See in general Balderston, German Economic Crisis.

Van Riel and Schram, "WeimarEconomic Decline," p. 77.

1084

Ferguson and Granville

salaries.This nascentmiddle class suffereda furthersevere blow to their

position afterthe crashof August 1998.64 At the same time, public resentment has increasinglyfocused on the "oligarchs"who have been the most
conspicuousbeneficiariesof the Yeltsinregime.
InbothWeimarGermanyandRussia,inflationarypolicies were not only
economically costly, but also politically dangerous.By discreditingfree
markets,the rule of law, parliamentary
institutions,and internationaleconomic openness,the Weimarinflationproved the perfect seedbed for national(ist)socialism.InRussia,too, the immediatesocial costs of highinflation mayhave gravepoliticalconsequencesin the mediumterm.As in Weimar Germany, the losers may yet become the natural constituency for a
political backlash against both foreign creditorsand domestic profiteers. The
words of Stefan Zweig are worth recalling: "Nothing ever embittered the
German people so much ... nothing made them so furious with hate and so
ripe for Hitler as the inflation."65
64 According to Goskomstat (Sotsial'no-ekonomicheskoe polozhenoe, yanvar-iul', 1999 goda,
Rossiikoe statisticheskoe agenstvo, p. 210), the official government estimate/count of Russians living
below the poverty line has risen from was 32.9 million or 22.4 percent of the population, in the six
months up to June 1998 to 51.7 million, or 35.3 percent of the population, in the 1999 comparable
period, an increase of 57.1 percent.
65 Quoted in Feldman, Great Disorder, p. 858.

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