In this book, Guinevere Liberty Nell visits this historical laboratory of social science to study the lessons in basic economics that it teaches.

Nell observes that the founders of the Soviet experiment, Lenin and other Bolshevik...

In this book, Guinevere Liberty Nell visits this historical laboratory of social science to study the lessons in basic economics that it teaches.

Nell observes that the founders of the Soviet experiment, Lenin and other Bolshevik leaders, wrote volumes of articles and books on Marxist theory and then proceeded to enact the very policies that they promised. Therefore the Soviet experiment provides an ideal lens through which to view the consequences of various interpretations of economic theories and Marxist theories. However, despite the wealth of information available on the Soviet experiment, few writers have closely analyzed this historical process and what lessons it might offer for market economies.

In this book, Nell carefully considers Soviet theory and practice, and draws out the lessons that Soviet planners learned. Each chapter considers one theory; the experience in the Soviet Union of policies based on this theory, and the reforms that planners implemented as the system evolved as well as in response to changes in the local and international conditions; and the lessons for market economies that this experience offers.

Nell’s lessons capture the dynamic nature of the economy and illustrate insights from the debate between socialists and Austrian economists. They should be useful and informative not only for readers interested in basic economics, but also for economists interested in heterodox approaches to economic modeling and theory, as well as for the citizen interested in rethinking the assumptions underlying mainstream policy debates.

Why did the Soviet system, which allowed the workers to own the means of production and held the hopes of so many for so long, fail to produce the promised prosperity and freedom? Was it hijacked and turned on its face—or was it the system itself which failed the people? A dispassionate analysis must carefully analyze the economic and political theories of the Soviet leaders, determine whether the policies they enacted were in fact those suggested by their theories, and then proceed to analyze why the results of the system did not measure up to the promise.

There is no shortage of documentation on Marxist theory leading up to the revolution. “Without revolutionary theory there can be no revolutionary movement,” Lenin wrote in 1901. This was the year he first used the pseudonym “Lenin” and 16 years before his sudden rise to power amidst the turmoil of revolution in 1917. Lenin’s revolutionary theory for that year is covered in volumes 4 and 5 of the 45-volume Collected Works of V. I. Lenin. Almost 9,000 works and documents are contained in the 45 volumes, including a huge number of articles relating to economic policy, political science, and the building of socialism. Yet many view Lenin as an impatient revolutionary, or see him as a dictator who exploited the peoples of the Soviet Union, betraying the hopes and dreams of socialism for his own benefit. Yet, if Lenin did make a true attempt at implementing Marxist theory, there are important lessons that could be lost to history if it is assumed that he was ill-intentioned. Lenin built his theory and policy on Marxist economics and a powerful belief in the superiority of socialism: a belief in the superiority of a system built upon social ownership of the means of production to a system based on private property. However, the lessons from the experiment of the Soviet system extend beyond the question of which of the two systems is superior. If anything is fundamental to the discipline of economics, it is the distinction between public and private ownership.

Whether the profit motive is seen as immoral or useful or a necessary evil, economic theory must come to understand its effects and build them into economic models. As economists study public provision of core necessities, regulations, subsidies, and other economic policies, the distinction between private ownership and public ownership—the institutions of the society under study—must be well defined and well understood. The Soviet experiment presents a core body of evidence to researchers seeking to understand the full range of effects that institutions create. Yet the Soviet experiment with eliminating markets and installing a system of social ownership of production has not been closely analyzed by economists.

What is Socialism?

Before considering further how to learn from the Soviet experiment, some basic terminology should be cleared up. When I refer to socialism, I am using the term to mean something very specific: social ownership over the means of production. This is the definition of the word “socialism” used by economists during the period under discussion and today, including both advocates and skeptics of such a system. In popular policy debate, the term “socialism” is often used to describe economies without complete social ownership over all production: Sweden, France, and other European countries are sometimes called socialist, for example. Some political parties also call themselves “socialist” or “social-democratic” even if they do not advocate full-fledged socialism as defined above.

This casual usage can cause some confusion. These countries and political parties may be called “socialist” because they advocate greater social ownership in the economy, but if they do not advocate social ownership over all production in the economy they are not socialist in the sense used by economists at least since Karl Marx.2 Furthermore, in casual usage, the economies that have implemented complete social ownership of the means of production are often referred to as “communist”— this is also misleading.

Marx used the terms “socialism” and “communism” interchangeably, but he distinguished the lower and higher phases of communism. Lenin then coined the lower phase as “socialism” and the higher phase, “communism.” Thus, the Communist Party (Bolshevik) brought socialism to Russia in hopes of one day ushering in communism. This has been the way the two words have been defined ever since by economists debating the merits of social ownership, by Soviet economists and political leaders, and by public experts, including both advocates and skeptics of the socialist program. This is why some say that communism has never been attempted. . .

The experiment with socialism in the Soviet Union was based on Marxist economic theory, which denied the universal nature of economic law. The economy became a blank slate, without markets, prices, even without money for a time. Government had to rediscover fire—learning basic economics over again. This historical laboratory of social science should be exploited for the following lessons of basic economics it offers.

1.The Value of Unemployment

A major argument for...

The experiment with socialism in the Soviet Union was based on Marxist economic theory, which denied the universal nature of economic law. The economy became a blank slate, without markets, prices, even without money for a time. Government had to rediscover fire—learning basic economics over again. This historical laboratory of social science should be exploited for the following lessons of basic economics it offers.

1.The Value of Unemployment

A major argument for socialism was that it could offer full employment. The attempt to eliminate unemployment and direct labor led to the serious difficulty of matching workers to appropriate jobs, and labor rigidity led to incredibly low labor productivity. Planners were forced to introduce some flexibility in the labor market. This lesson reveals the fluid nature of a healthy labor market, and the incredible rewards that come with labor flexibility. This is important to consideration of jobs protection, and labor law.

2. Understanding the Equity-Efficiency Trade Off

Resting on the “labor theory of value,” socialism promised workers would be paid by labor time; no manager would earn more than his workers. The attempt to create equity in wages led to a difficulty in allocating workers to desired sectors when the labor market was free. Socialism never produced the expected equality and upward mobility it promised. This lesson reveals the importance of freely set wages not only for rewarding hard work, but for the economy to match supply to demand. This bears on wage minimums and maximums, as well as redistribution of income for the purpose of equity.

3. Brand Names, Middlemen and Marketing are not a Waste

Socialists argued that capitalism produced great waste with its extensive advertising, marketing, and its horrid “middlemen.” However, the elimination of brand names and marketing in the Soviet Union left the consumer and the planner unable to distinguish good products and firms from poor ones, and they were reintroduced. Elimination of the capitalist “middleman” left firms unable to obtain intermediate goods easily and new socialist “middlemen” emerged. But, market-based division of labor had been much more efficient. This lesson makes clear the utility of services often seen as wasteful, and bears directly on certain arguments regarding the efficiency of socialized medicine.

4. The Real Benefits of Competition

Competition was disparaged by socialists as wasteful, even as they complained of increasing concentration of big business. Nationalization was supposed to take advantage of economies of scale, while keeping prices low. Instead, it led to a sellers’ market unresponsive to the consumer. This lesson reveals the power of even one potential rival, and the process by which “imperfect” competition drives efficient and high-quality production. The socialist elimination of competition looked like the “perfect competition” of neoclassical models. This lesson is important for a better understanding of competition and growth, the market power of firms like Wal-Mart and when considering the need for antitrust law.

5. The Value of Profit and Loss

Profits were seen as “surplus-value” stolen from the worker, and loss was argued to prevent socially necessary, but unprofitable production under capitalism. However, the elimination of profit as a motive, and loss as a constraint, led to an assortment of unwanted products and an irrational allocation of resources across the economy. Without use of the profit motive, firms had only targets and could not produce what the consumer desired. Without the loss constraint, such products continued to be made, and inefficiencies of all sorts were allowed. This lesson reveals the critical import of these often disparaged phenomena. Subsidies and public provision of goods, as well as profit caps should be considered with this in mind.

6. Prices Can't be Controlled

Socialists imagined that value and prices were only important in a market system. Yet, the eradication of the price in the planned economy led to confusion and inability to direct the economy. During the “new economic policy,” with reintroduction of a partial market, setting of prices plagued planners again. Later, with a fully planned economy and prices set centrally, a whole new kind of chaos emerged. The socialist experiment reveals the dangers of centralized price-setting. This lesson should be kept in mind when a policy may affect the prices in the industry it targets. Examples include ongoing government subsidies, government purchases in a sector, bail-outs or “stimulus” that prop up an industry, as well as explicit price controls.

7. The Problems with Centralized Monetary Policy

The Bolsheviks knew the importance of the banking system; they deemed it critical for controlling the economy. However, banking was not easy to control. Nationalization of banking together with elimination of interest rates led to confusion over the value of investment. Reintroduction of interest rates set centrally was of little help; like other prices, the market-value of the interest rate was impossible to determine. This lesson highlights the danger of controlling this ubiquitous price signal. Monetary policy should be taken with this lesson in mind.

8. Regulation and Deregulation

Socialists organized the economy according to a plan, necessitating command as the formula for compliance because profit motive was no longer the driving force. This attempt to command compliance, rather than rely on incentives, led to unceasing frustration and new decrees, along with extensive enforcement apparatus. Reforms that could not alter incentives revealed the distortion caused by the underlying institutions. This lesson exposes the dominance of the institutional incentives over any regulatory regime. It should be kept in mind when new layers of regulations are added to combat bad behavior: perhaps an earlier intervention distorted the incentives of those involved.

9. Democracy and Freedom

Socialism promised a more democratic and free society. Without money, most workers had no real freedom, they argued, and socialism would offer economic democracy. Yet, the replacement of free exchange with the “positive liberty” of free resources led to central direction. Free resources for free speech meant nationalization of the media, and censorship. Common ownership of resources required planning, and loss of freedom. This lesson reveals the true freedom inherent in the free market. “Positive liberty” replaces the liberty of free exchange, and economic democracy is just rent-seeking, and leads to centralization. Complete planning is necessarily totalitarian.

10. Corporatism not Markets to Blame

Many of the socialist arguments were aimed at the power of the capitalist to control and use the state against workers and consumers. However, the socialist answer was not to reduce this state-business interaction, but actually to enhance it. The result was an enhancement of the ills pointed to by socialists. This lesson reveals the mistaken conflation between pro-business and free market systems, and the false dichotomy between those who favor using government to protect the rich, and those who favor government to protect the poor, the common right-left divide.