"Gorbachev Factor"

The problem, however, was that most of his reform measures were spontaneous and did not foresee many negative consequences. Several steps, in particular, taken from 1988 on, proved fateful and self-defeating. The first of these was connected with his plan to create financial incentives for enterprises and to encourage them to show more initiative and independence in their economic activity. To this end, the Law on State Enterprises was adopted that came into effect in 1988.

The new law’s central idea was to allow each state enterprise, no matter how large or small, to dispose of its share of budget allocation independently, without commands and instructions from Moscow. The reformers hoped that if factories were free to administer their own budget and to fix prices for their output, they would have greater incentives to improve their performance and profitability. Moreover, they would be motivated to look actively for their own (and not imposed by Moscow) suppliers and subcontractors, thus setting up effective producer networks within and between regions.

Gorbachev and his economic advisers hoped that the new law would unleash the initiative of enterprise managers and infuse the stagnating socialist economy with elements of competition. However, many company directors were not prepared psychologically to turn into responsible independent managers. Instead of restructuring production and improving quality, they preferred to raise the prices of their products and increase the wages of their work force. Instead of looking for suppliers and partners across the Soviet Union, they turned for help to local party-state administrators.

The law increased the dependence of companies on local government, and the supervision of the economy by all-union ministries was seriously undermined. The law dealt a powerful blow to the Communist centralized managerial system before any viable alternative was put in its place.

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