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The Russian Economy's Big Black Hole: Nation's Heavy Industry Still Awaiting Post-Soviet Resurgence

By David Hoffman, Washington Post, 9 December 1996, p. A01

ZLATOUST, Russia -- Deep inside the cavernous steel mills that snake six miles through a mountain valley here, Sergei Kliukvin, the supervisor of Shop No. 3, rattled a locked cage. Behind it lay a darkened hall of slumbering monoliths.

They are vacuum-arc furnaces, and they once produced the purest steel available in the Soviet Union for airplanes, missiles and atomic power plants. Now they are silent and locked away. There are so few purchase orders that they operate at less than 1 percent of capacity.

"We don't want to get used to this," said Kliukvin, wearing a hard hat and tie as he picked his way through the strangely quiet steel mill, which was cluttered with ingots, rods and chains but held few workers.

The darkened hall is a sign of Russia's industrial collapse and long-awaited revival. The great leap from communist rule to a free-market system has, after nearly five years, led to a severely distorted economy. Some industries, such as oil and gas, are riding high, and legions of individual "shuttle-traders" ply consumer goods from city to village. But a big, black hole remains in the Russian economy; factory production is in a deep depression, and it is still falling.

The reasons can be seen here, at the Zlatoust Metallurgical Factory, a jumble of giant mills, pipes, tubes and rail lines 825 miles southeast of Moscow in Russia's industrial heartland. The factory dates to czarist Russia; later, it was a cog in the mammoth Soviet military-industrial complex. Tucked away in the Ural Mountains, the city of Zlatoust -- population 208,000 -- is still under the gaze of a monument to Lenin dressed as a metallurgist, and it is still shrouded in polluted haze from the smokestacks of nearby furnaces still operating.

From grocery stores to steel smelters, Russia's economic troubles are on display here. The workers still make steel, but they are not making headway in the new Russia.

The factory is chock-full of aging equipment and has barely begun modernization and restructuring, both key ingredients in the transition from the centrally planned Soviet economy to a free market system. "We lack modern technology," lamented Alexander Shutikhin, the chief metallurgist. One of the factory's steel mills is so old, he said, that "in Europe, you only study this process in textbooks; no one actually does it anymore."

Modernization has lagged because the first private investors in the factory after the Soviet collapse failed to inject new money into it as they had promised, according to court documents. Recently, those investors were forced out, and their shares fell back into state hands.

Moreover, the factory's day-to-day survival is wrapped up in the primitive bartering system that has taken hold across Russia. Much of the Zlatoust steel is traded for cars, refrigerators, medical services and even for a recent shipment of pickles to the company store.

Once, the factory got all the energy it could use practically free; now it must pay for gas and electricity. Prices have skyrocketed and so have debts. Many days, steel mills are dark because their electric bills have not been paid.

The Zlatoust factory also illustrates the desperate straits of industrial workers across Russia who are paid months late but nonetheless cling to their meager jobs -- and their hopes of a better day. In Zlatoust, most workers get only a fifth of their wages in cash and the rest in company coupons, to be used locally. The average monthly pay among the 11,500 workers last month was $145.

The factory is also an example of the conundrum facing Moscow as it attempts to collect taxes from these aging industrial mammoths while simultaneously keeping them alive. Although production is down significantly at Zlatoust, its mills still churn out thousands of tons of steel and earn money from exports. But if forced to pay its back taxes, the management says, the steel works will have little money to reinvest and ultimately will face bankruptcy.

Yet, if the government does not collect taxes -- as it failed to do in recent months -- it cannot pay for basic needs of the state, such as soldiers' wages. Recently, under a new get-tough policy, the government demanded that the Zlatoust factory pay its back taxes or be forced into bankruptcy. Pyotr Mostovoi, who heads the federal bankruptcy agency, identified Zlatoust as among Russia's "biggest nonpayers of taxes."

Vyacheslav Skvortsov, the plant director, said it made $9 million profit in the first 10 months of this year on sales of $100 million. But he said it owes $8.3 million in taxes. Rather than pay now, he has proposed that the government give the factory a "tax holiday" for three months starting in January and lower taxes after that to allow some breathing room.

"We understand we must pay taxes, but the state wants to take everything now, regardless of whether we can pay or not," said Skvortsov. "This is our plan: We keep the factory going. The sick chicken must be healed so she will give eggs."

The ailing factory was once a vital part of the Soviet defense industry. It can produce 1,000 grades of steel and alloys, and it provided metals for oil refineries, atomic power plants, cars, rockets, electronics, aviation and cutlery. But when central planning died in 1992, production began to decline. State orders dried up. "It was savagery," recalled Kliukvin, the shop supervisor.

Over the last three years, the factory's annual output has fallen from 598,000 tons to about 380,000. That is typical of Russian industry; overall, industrial production in Russia has plunged by more than 50 percent since 1991, according to official estimates. In its most recent report, the State Statistics Committee said Russian industrial production in the first six months of this year fell 4 percent, compared to the same period last year.

Zlatoust is almost entirely dependent on the steel works, and the first years of privatization -- the largest transfer of state property to private hands in history -- did not work here as government reformers had hoped. A controlling block of Zlatoust shares, 35 percent, was sold to a group of six investors, described as metals traders in the provincial capital, Chelyabinsk, about 100 miles away. Operating under the name Uralspetzstal, the traders' initial investment was small, but they promised to plow more than $185 million into the factory.

The theory of President Boris Yeltsin's reformers was that such factories would be better off if sold quickly to private owners than if left in state hands. But the theory went awry in Zlatoust. Here, according to Skvortsov, the Uralspetzstal investors earned profits by exporting steel but failed to reinvest in the plant. Regional courts backed the plant director's claim that no new investments were made, Skvortsov said the investors left Russia. They could not be reached for comment.

"We were deceived," said Victor Cherepakhin, a 30-year veteran of the factory who heads shop No. 1, where scrap metal is melted into steel ingots.

Skvortsov, brought in as director of the ailing plant early this year, went to court to force out the investors. A regional judge ordered the privatization canceled, saying the investors "did not make any kind of investment" in the factory. There has been a range of success and failure among the privatized factories, but the court decision is believed to be among the first of its kind.

The early experience with privatization and reform was a bitter one for the workers. Although they own 49 percent of the factory, they are discouraged. "Their vote means nothing, and they are insignificant," Skvortsov said. Their initiative and creativity were lost. . . . They felt an unfair proportion of the profits were taken by a very small group."

The factory's future is uncertain. There are several proposals that the controlling block of shares be privatized again or simply held by the state for a few years.

In Skvortsov's small office, a portrait of Lenin hangs over his desk. Skvortsov, who described himself as believing in the market economy, said he did not want to offend workers in this traditional city by removing Lenin's portrait.

"I didn't hang it," he said, "and I will not be the one to take it down."

CRUMBLING FACTORY ONCE POWERFUL, NOW BARELY HANGING ON

The Zlatoust steel mill, whose output has declined by one-third in the past three years, is a microcosm of Russia's industrial collapse since privatization began.