APPENDIX I: Statistical Sources
APPENDIX II: Parallel Markets and the Measurement of the Overhang
As argued in Section II, the existence of nonofficial markets in which prices are not regulated does not rule out the possibility of a monetary overhang if the size of the nonofficial market is limited. However, the procedure suggested in the text for the measurement of the overhang can be affected by underreporting of transactions on parallel markets. This occurs for two reasons; first, because the parameters of the consumption function may be affected by measurement errors; second, because, even if the true parameters were known, the difference between desired and actual consumption may be overestimated if actual consumption and inflation are underestimated. To appreciate the extent of these problems, consider the following linear version of the model presented in the text. Total disposable income
where YS is disposable income in the socialized sector plus all measured income generated on parallel markets and YN is unreported income. Actual consumption is given by:
Measured consumption C is given by:
So, actual consumption will be underestimated by an amount qual to YN and the actual saving rate
A second variable affected by inadequate measurements of activity in parallel markets is the inflation rate; we express the relation between true and measured inflation rate (respectively
Assume now that the true consumption function is:
where W is nonhuman wealth, u is an i.i.d. error term and b1, b2 and f are parameters the latter summarizing the relation between income and human wealth. By substitution of (A.1) and (A.4) and of the definition of
Consider first the inflation rate. As described in Appendix I, CIA inflation estimates are used in the regressions, rather than official Soviet figures. We believe that this reduced substantially the systematic component of the measurement error (e.g. the systematic underestimation of inflation), possibly reducing the measurement error Φ to i.i.d. with no effect on the estimates. As to the measurement error of disposable income, three points can be raised. First, again, official figures have been partially adjusted to account for activity on parallel markets. Second, the relevance of the error is inversely related to the propensity to consume out of disposable income: as bl f approaches unity the effect of the underestimation of YN becomes less important. 1/ As we know that the saving rate is quite low in the Soviet Union (and the data used even overestimate it), the effect of the omission of YN is reduced. Finally, the fact that in the estimates the error appears to be i.i.d. indicates, again, that, if present, YN was rather small.
Consider now the effect of the omission of YN on the estimates of forced saving. The omission of YN involves an underestimation of actual consumption equal to YN (again, under the assumption that S is measured exactly); desired consumption is, however, also underestimated, for an amount equal to bl f YN. So the error on the computation of
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We thank Hugh Bredenkamp, Gregory Grossman, Piroska Nagy, Kent Osband, Teresa Ter-Minassian, Alan Whittome and Thomas Wolf for comments and suggestions on a previous version of the paper and Luigi Guiso for helpful discussions. We also thank the Bank of Italy for allowing the use of the ESTITEST Speakeasy routine used for the econometric results presented in Sections IV and V.
In addition, it is likely that official price indices underestimate the actual price increases in official markets. “Hidden” inflation may occur because official price lists lag behind actual prices or changes in the quality and characteristics of goods sold in official markets. See Nuti (1989).
A similar econometric approach to the one adopted here, as well as a discussion on the monetary overhang of Soviet enterprises is presented in IMF et al. (1991).
The higher level of nominal wealth implies also an increase in real wealth at current, controlled prices but not necessarily at equilibrium prices.
Of course, a monetary overhang can exist also in the absence of a wealth overhang, like in a case in which total wealth is equal to desired wealth but the composition of wealth is sub-optimal (and biased towards money).
Relative to the level of savings that is expected to prevail in the absence of price controls in the official markets.
Such overhang is, however, “voluntary” in the sense that it arises from speculative reasons and not only from current commodity scarcities.
If official allocations are not implemented through coupons but rather by queuing, and the probability to obtain the desired good is, for each individual, larger than zero, it is possible that households prefer to delay their purchases and queue longer (accumulating at the same time more undesired balances) rather than pay the higher parallel market prices.
The kolkhoz market and the private supply of housing services (particularly housing construction) constitute the most important legal parallel markets in the Soviet Union (Grossman (1977)). Official data on expenditure and consumption take partially into account economic activity outside the state sector but exclude entirely incomes from illegal activities.
In the following sections partial consideration of economic activity in parallel markets will be given by using adjusted data (instead of official data) on consumption and prices. To the extent that this is not sufficient to take into account the role of parallel markets, indications on the effect of unreported transactions on the estimate of the overhang will be provided.
It has been argued, instead, that the concept of aggregate disequilibrium is not well defined in economies where chronic shortages are pervasive (Kornai (1980, 1982)). According to this view, in an economy in which shortages are chronic, forced substitution is widespread: households that cannot obtain the commodities that they seek will buy substitutes and will not, generally, increase involuntarily their savings. If this is, indeed, the case, it would be correct to say that there is no overhang because income is always spent anyway. There would be, of course, an involuntary component in consumption behavior since households utility is clearly affected by the distortions in their desired expenditure basket, but there would be no accumulation of undesired balances.
Note that, according to this view, households are not able to react to excess saving by reducing their labor supply, given the structural rigidities characterizing labor markets in CPEs.
It could be argued, however, that precautionary savings may actually rise in the wake of systemic reforms if these imply increasing uncertainty regarding employment, social services, etc.
Other indicators, not available for the Soviet Union, however, have been used for other CPEs. Kornai (1982), for example, suggests considering the number of people queuing for officially allocated housing, the time invested in search for goods and the physical length of queues.
A second indicator of repressed inflation sometimes used for the Soviet Union is the ratio between secondary (kolkhoz) market and state prices; this ratio shows a continuous increase in the last 30 years, accelerating at the end of the 1980s (Chart 2, upper panel) which has been taken as indicator of chronic excess demand (Nove (1986); p. 255, for example). However, as indicated by Holzman (1960), repressed inflation should be measured by the secondary/official price ratio weighted by the share of kolkhoz market expenditure in total consumer expenditure. When this is done, there is no visible trend in the ratio over the period discussed here (Chart 2, lower panel).
Note also that if we took the money to income ratio as indicator of a monetary overhang we would have to conclude not only that the overhang accumulated throughout the last 30 years, but also that its rate of growth did not accelerate in the second half of the 1980s, which is hardly credible in light of well-reported phenomena of increased rationing characterizing the most recent years.
Previous econometric analysis of consumption behavior in the Soviet Union also reached ambiguous conclusions on the state of the consumption goods market before the 1980s. Pickersgill (1976) finds that consumption behavior between 1955 and 1971 can be explained mainly by movements of disposable income without the use of proxies for rationing effects. However, Pickersgill (1980b and 1983) identifies the existence of a structural break in consumption occurred in the middle of the 1960s (reflected in the increase of the saving rate; see Chart 3); she suggests that this break is due to rationing effects.
For a complete detail of recent developments and a discussion of the evolution of monetary institutions in the Soviet Union see IMF et al. (1991), Vol. I, Chapter 111.2 (pp. 359–377) and Vol. II, Chapter IV.5 (pp. 107–137).
In addition, in the later period there was a marked shortening of maturities, as the most liquid components, namely demand deposit and currency, rose more rapidly than saving deposits and bonds. This represents a change in the trend observed during the previous two decades since until 1987 the composition of households’ financial assets had shifted decisively towards the longer maturities. This “flight to liquidity” may be a symptom of increasing uncertainty (including the fear of administrative measures against bank deposits) or it may reflect a precautionary demand for cash in the context of an increasingly scarce and unpredictable supply of goods.
In our definition, consumption will include also consumer durables. This is an approximation; in theory, one would like to include in consumption only the value of the “services” obtained from the current stock of consumer durables; in this case, wealth could be defined as inclusive of consumer durables. Lack of adequate data on consumer durables, difficulties in estimating the value of their services and uncertainty on the inclusion, especially in a country like the Soviet Union, of consumer durables as components of wealth, led to the specification reported in the text.
As detailed in the Statistical Annex, wealth is defined as the sum of financial wealth (currency, bank deposits, government bonds and insurance policies net of households’ borrowing), plus houses and other real wealth (mainly livestock and other property held by rural households). The value of wealth at the beginning of the period is considered for each time period.
Human wealth is defined as the present discounted value of disposable labor income; this has been computed by adding to a three-period centered moving average of current disposable labor income the discounted expected stream of income in the next 27 years; in this respect, it has been assumed, for simplicity, that per capita real income was projected to grow at the constant annual rate of 2.5 percent (close to the average for the sample period 1965–85, considered in the estimates); the average interest rate on bank deposits was used as discount factor. The 27-year interval has been selected in the following way: the average expected life at birth of the population in the Soviet Union has been close to 69 years throughout the sample period (Kingkade (1987), p.11). Assuming an average expected life of 72 years for the population of age 18 (taken as average starting year of working life), 27 (= (72–18)/2) is the average number of years for which a middle-aged worker expects to receive labor income (including pension payments) in the rest of his/her life.
The most obvious reason why this may not be the case is that, in the absence of (efficient) capital markets, households cannot borrow against future labor income and that, as a consequence, an increase in human wealth has an effect on consumption more contained than an increase in nonhuman wealth. It must be recalled, however, that this aspect becomes relevant only in the presence of liquidity constraints, i.e. when desired consumption (based on human and nonhuman wealth) exceeds the amount of resources available in the current period. Therefore, we cannot a priori rule out the possibility that, even in the absence of efficient capital markets (such as in the Soviet Union), desired consumption is equally influenced by both wealth components. It can also be argued that uncertainty on future incomes implies that the discounted income flow may have a lower “weight” that nonhuman wealth; this aspect may, however, not be very relevant in the Soviet Union, given the high degree of “certainty” attached to future labor incomes (see, on this point, Ofer and Pickersgill (1980)).
Thus, if forced substitution (between different goods on the official market or between goods on the Government and on the black market) is large, so that actual expenditure (albeit not its composition) approaches desired expenditure, R is close to 1.
This corresponds to the existence of a “normal” degree of rationing, as suggested by the “chronic rationing” school.
Note that, strictly speaking, this component does not reflect actual rationing as consumption is voluntarily reduced to allow a buildup of precautionary reserves; this is the reason why this component may not be related to observable demand pressure indicators. However, in case of price liberalization, this component plays the same role of forced saving; as the reason for the accumulation of precautionary reserves disappears with price liberalization, the accumulated balances become part of the “overhang” that people desire to spend.
The use of rationing proxies for the estimation of demand curves under rationing, based on Fair and Jaffee (1972), is simpler than the one based explicitly on disequilibrium econometrics (see, with reference to CPEs, Portes and Winter (1980), Portes, Quandt and Yeo (1988) and Burkett (1988), for example). First, estimates can be performed with OLS; second, there is no need to specify a supply function, whose form would be arbitrary in the absence of appropriate models of enterprise behavior in CPEs. Finally, the use of disequilibrium econometrics would have implied the separation of the sample between points on the supply and points on the demand function; this procedure seems inappropriate given the very limited number of observations available. Proxies for rationing in the estimation of consumption functions for the Soviet Union have also been used to Green and Higgins (1977) and by Pickersgill (1980).
The real interest rate has been computed by deflating the nominal interest rate on bank deposits with an estimate of actual (as opposed to official) inflation (see Appendix I).
The Social Consumption Fund provides education and health services, grants, pensions and scholarships to the Soviet population. The benefit ratio was also computed considering the per capita benefits (i.e. the benefits for each member of the population) without altering substantially the econometric results.
Lack of adequate information on the stock of consumer durables prevented its use as an additional explanatory variable, despite its potential relevance in explaining saving movements in the Soviet Union (as argued in Section III.1). Note that the variables indicated in (b), (c) and (d) are included only because of the imperfect way in which the current real value of human and nonhuman wealth is computed. If wealth were computed by aggregating all individual discounted income streams of the population (plus the current real value of nonhuman wealth) it would be necessary to include only the real interest rate.
Note that this specification does not correspond completely to an error correction applied on equation 2 as the change in disposable income, instead of the change in total wealth, appears as “impact variable” in (8). equation (8) implies that changes in disposable income (and hence in human wealth), possibly in connection to liquidity effects, affect consumption faster than changes in nonhuman wealth. Note also that if d1 = d2 then the long-run elasticity of C with respect to H + W is one and there are no composition effects, which corresponds to the case in which, in equation (7), a2 = 0 and a1 = 1.
Clearly, c0 as part of the constant in (7), will have to be evaluated judgmentally.
Note that desired saving has to be evaluated, for all periods, along the equilibrium path, i.e. it has to be derived by using in the consumption function desired wealth and not actual wealth.
Note that even if households desire to spend this “wealth overhang”, they may not necessarily want to spend it entirely in one period. The share of the overhang that households want to spend in the current period will depend on several factors, including the type of consumer goods and services that was rationed in the past and all factors affecting the intertemporal distribution of households’ resources. In the extreme case in which forsaken consumption has not created an overhang of “unsatisfied needs”, the overhang has the same effect on expenditure of a “windfall gain” which, in a life cycle perspective, will be spent only gradually throughout life.
This can occur because, after a period of rationing, supply may again increase allowing for a gradual absorption of the initial overhang.
As we are considering a growing economy, it is always possible to start the simulation in a period (e.g. the early 1960s) in which the overhang was “small” with respect to the value of the overhang at the end of the period.
Note that it is also necessary to include as part of desired saving the error term of the equation.
In theory, if the included proxy for rationing were very good, an increased degree of rationing would not necessarily induce instability in the equation. But, in practice, it is possible that the proxies used are inadequate to describe fully the extent of the increase in rationing occurred during the late 1980s.
Note that, as the simulation includes periods outside the range used in the estimation, it is not possible to include in the estimate of desired saving the error term; the measurement of the overhang will therefore be affected by a disturbance, equal to the error term outside the estimation period.
The use of OLS in the estimation of consumption functions has well known drawbacks. The main problem is the endogeneity of income with respect to consumption demand; in the context of CPEs, however, this endogeneity should not be taken for granted as total income may be entirely supply determined (so that random shocks in consumption demand would affect mainly stockbuilding rather than total output). More serious may be the consequences of measurement errors affecting disposable income, especially if related to the existence of black markets; however, as argued in Appendix II, the effect of measurement errors in the sample period are probably limited.
Limiting the estimation period to the post Khrushchev era, may help identifying a stable behavior in the absence of regime shifts. On the other hand, we are forsaking the possibility of explaining the “jump” in the propensity to save occurred between the first and second half of the 1960s. It must be added, however, that the reliability of the data declines rapidly as we go back in time; more specifically, official data on financial savings (particularly cash holdings) are available only as of 1964, the first year of our sample period; in this respect, it cannot be ruled out that the jump in the saving ratio observed in the middle of the 1960s was influenced by lack of adequate information on cash holdings (see Appendix I).
As detailed in the legend, Table 2 reports for all tests (with the exclusion of the DW test and of Harvey’s PSI tests) the percentage of the appropriate test distribution laying on the right of the computed test statistic, under the null hypothesis of absence of mispecification. The null hypothesis cannot be rejected at the conventional 5-percent level if the value reported in the table is higher than 5 percent. Note that for some of the tests reported in the table (specifically for the Normality test, the Liung-Box tests and the two Heteroskedasticity tests) only the asymptotic distribution is known. For those tests, in light of the limited number of observations available, it seems to be safe to accept the null hypothesis only when the value reported in the table is “substantially” higher than 5 percent. It must also be recalled that in dynamic regressions with only 22 observations the results may be to some extent affected by bias of the Hurwicz type.
Note that with 13 degrees of freedom the critical value of the t distribution is 1.77 at the 10-percent level and 2.16 at the 5-percent level.
Further attempts to reintroduce in this equation, individually or in combination, the variables previously excluded failed, as these variables remained insignificant.
This is because nonhuman wealth, which is derived from (permanent) disposable labor income, is in the Soviet Union much larger than nonhuman wealth. Even in the United States human wealth is estimated to be around 12 times nonhuman wealth (Jorgenson and Fraumeni (1989)); it is not surprising that in the Soviet Union this ratio is around twice as high.
Until 1985, these errors are equal to the residuals of the equation estimates.
Also, it is possible that actual inflation (i.e. inflation taking into account price behavior on parallel markets) exceeded measured inflation. While, possibly due to insufficient inflation variability before 1985, inflation did not appear to have influences on consumption in the Soviet Union, it stands to reason that, in the presence of strong inflationary pressures, desired saving may have increased in the late 1980s to restore the value of financial wealth eroded by the higher-price level.
Remember that saving is measured reasonably well by financial statistics. Therefore, errors in the measurement of consumption must be due to errors in income measurement.
This is, of course, a simplification as we are implicitly assuming that the error term of the equation is always close to zero outside the sample period.
Similar results are obtained with the generalized Chow test of Honda and Otani (1984), also reported in the table.
In each case, equation C has been re-estimated ending the sample period in the last year of equilibrium. Note that for all simulations forced saving is positive in all years, as should be expected, regardless of the starting year. Note, instead, that a simulation starting in 1981 would produce negative estimates of forced saving in the first two years confirming that rationing was certainly not relevant until, at least, 1982.
Although the choice of an initial year when the overhang was zero is necessary, the results are not very sensitive to the specific year considered; choosing 1970, instead of 1965, as the initial year would alter the results only marginally.
It could, however, be argued that making chronic overhang increase in the second half of the 1980s is unrealistic; indeed, if we interpret deviations of c0 from unity not as “chronic forced saving” but as increases in the precautionary reserves due to the existence of micro shortages, then it appears that the need to accumulate additional balances disappears when, due to macroeconomic shortages, wealth was already increasing at rates much higher than desired. If we maintain the value of the “chronic overhang” constant at its 1985 level, we obtain a range for the total overhang from 148 to 181 billion rubles, with an average of 168 billion rubles (column g).
This assumption is appropriate as long as households perceive that the price increase will not erode permanently their real labor income (i.e. as long as wages are moved in line with prices). Note, however, that an equal increase of prices and nominal incomes, while it can eliminate the initial stock of the overhang, would not eliminate the source of the overhang accumulation, i.e. the “excessive” real income of the population. Thus, equilibrium of both stock and flows may require some decline in real distributed income (albeit not a decline in consumption standards).
As detailed in Appendix I, the value of houses included in the definition of wealth reflects in principle an evaluation at current prices; however, the series, provided by Goskomstat, reflects the official house prices which may underestimate, in both level and growth rate, the actual value of houses. The series matches anyway the figures reported in the so-called Abalkin Plan.
As reported by Smith (1973) “although the downturn in individual home building may possibly be a reflection of deliberate restrictive policies, it is more likely the outcome of an increasingly stringent problem in providing building materials” (p. 413). Only recently the Soviet Government has enacted new legislation to favor “a reversal of the long-term decline of this ’private sector’ over a 30-year period” (Andrusz (1990), p. 563).
As reference, financial wealth in G7 countries ranges from 30 to 50 percent of households’ total wealth.
Lottery bonds are government bonds whose 3-percent interest rate is paid in the form of lottery winnings; although their maturity is formally rather long, their can be converted into cash upon presentation at the State Saving Bank.
At the beginning of 1991, the Soviet Government tried to partially deal with the problem by retiring from circulation large denomination bills. After significant pressure, many exceptions to the measure were allowed and the net result is estimated to have been the reduction of liquidity of no more than 8 billion rubles, or approximately 5 percent of our estimated overhang.
This occurs because the implication of having bl f close to 1 is that most increases in income are consumed. But the effect of the underestimation of Y is precisely that of making the correlation of Y and C closer to one (because C is obtained as a residual given S). So the problem is less relevant when the correlation between Y and C is actually high.
These percentages correspond to an underestimate of disposable income respectively by 11, 25 and 57 billion rubles for the three years. These values are fairly large with respect to the estimated size of parallel markets. For example, according to CIA(1990), the net income of households from the sales of agricultural products (including the sales on official markets) totaled 19 billion rubles in 1987.