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Underground Capitalist in Soviet Russia

How illegal entrepreneur Pavlenko built a thriving business in the Stalin-era economy

© WIKIMEDIA COMMONS

Nikolai Pavlenko, a shadow entrepreneur and creator of a successful business in Stalin’s USSR, was executed by firing squad in 1955. Running a successful commercial enterprise right under the dictator’s nose in a strictly planned economy was a striking but not so uncommon case in the Soviet Union at the time, according to HSE professor Oleg Khlevniuk who made a number of unexpected findings having studied newly accessible archival documents. Below, IQ.HSE offers a summary of what his study reveals.

Soviet-style Fraud

Running a network of branches in 32 cities and towns, awarded 64 government contracts worth a total of 38 million rubles, employing hundreds of people, having at its disposal dozens of roads and railways built with public funds, numerous bank accounts, vehicles and equipment, and even armed guards, Pavlenko's Military Construction Administration (MCA-1) operated on a grand scale and crashed down due to a minor incident.

In 1952, a dissatisfied employee sent a complaint to Moscow. A thorough inquiry revealed a shocking fact: a fictitious private business, fully integrated into the Soviet planned economy, had been operating for almost five years. The Ministry of State Security joined the Prosecutor General's investigation, and the case was reported to the country's leadership.

The denouement of this large-scale scheme came with arrests, trials and sentences ranging from five to 25 years for Pavlenko's 16 associates, and the death penalty for the man himself.

At the time of his arrest, Pavlenko was 40.

He set up his first (illegally operating) military construction organisation (UVSR-5) in 1942, having forged the required paperwork.

After the war, he was demobilised, obtained false papers which indicated his rank as that of a Major Engineer, and continued his business, legally at first (as a construction cooperative in Kalinin) and then in the shadow economy. Using a fake seal and stamp, he set up a fictitious Military Construction Administration No. 1 (MCA-1) which he presented as operating under the auspices of the USSR Ministry of Defence.

He received his first road construction contract worth a substantial 350-400 thousand rubles from a coalmining trust in Lvov. Pavlenko’s company purchased construction materials and equipment and opened bank accounts.

After his first contract was successfully completed, Pavlenko signed a number of others in several regions across the USSR and set up new construction organisations on behalf of MCA-1.

Using State's Weaknesses

Pavlenko's enterprise has so far been the only known example of a large illegal private company in the Stalin-era USSR. But does this really mean that there were no others? Khlevniuk warns against hasty conclusions, as many archival documents which may give insights into illegal entrepreneurship cases investigated at the time are still classified.

But it is still possible to form an idea of whether or not the case of 'Major Engineer' Pavlenko was typical by examining how the real Soviet economic system worked – where 'real' did not equal 'planned'. While most non-state economic activity was either supressed or strictly controlled, the state had to turn a blind eye to some commercial initiatives because otherwise it would not be able to feed the people in situations of acute crisis.

As a result, a so-called 'second economy' emerged consisting of entirely or partially underground enterprise integrated into the highly-centralised public sector. This seems to be the reason why Pavlenko's MCA-1 was established and survived for so long.

Shadow Economy as Necessity

In one way or another, private entrepreneurs operated in many economic sectors. In agriculture, despite the dominance of collective farms [kolkhoz], private household farms still existed, small in size but significant in terms of food supply to the market – in 1937, they contributed 38.4% of all produce, including potatoes, and 67.9% of all meat and dairy. It was common for collective farms to lease their lands illegally to private farmers.

Consumer goods, such as clothes, footwear and others, were often manufactured by private artisans who commonly used formal membership in production cooperatives as their legal cover and often stole materials and other resources from state enterprises.

In a situation where consumer goods were always in short supply and the entire retail system was deeply flawed, private traders operated covertly, selling products supplied by private artisans or farmers or stolen from factories, or reselling goods obtained from retail stores.

In Pavlenko’s domain, i.e. the industrial production and construction sector, the lack of resources in a planned economy prompted enterprise managers to engage in illegal or semi-legal barter or purchase schemes to procure raw materials and equipment. Similarly, the workforce was recruited in the shadow market, bypassing the law.

Growth Factors

The aforementioned flaws in the state's economic system were not the only enabling factors for shadow entrepreneurs. The following circumstances, both general and local in nature, supported the establishment and growth of Pavlenko's MCA-1:

 Social upheaval.Systemic political repression was the most important prerequisite for various shadow schemes, because the state's focus on fabricating political and espionage cases left many economic offences unpunished. According to the study’s author, 'Stalin-era laws made it as likely for the guilty to escape punishment as it was for the innocent to become victims'. In such circumstances, further complicated by the recent war, many people used false papers; 'to hide their past, they invented new and safer biographies and bought fake IDs'.

 High Demand for Construction.The country required fast and efficient construction to recover after the war. Enterprises were given a lot of leeway – as long as they stayed within the law – in choosing their contractors and providing them with resources. As a result, Pavlenko never lacked contracts and kept his relationships with customers and his contract financing legally sound.

 Operating under the Ministry of Defence brand.Being perceived as part of the defence industry gave huge advantages in terms of opening bank accounts, getting contracts and purchasing equipment and vehicles. The military nature of the organisation led to strict discipline and lowered the risk of information leakages. The company administration confiscated employees' passports, thus minimising staff turnover. In addition to this, the company had armed security of up to 35 people on its staff.

 Specific staff recruitment policies.The scheme relied on the cohesion of its core team. Only a narrow circle of close associates knew the truth, while ordinary employees just worked in their jobs without suspecting anything. In order to manage his regional branches, Pavlenko recruited assistants from among relatives, acquaintances and former colleagues. In particular, he sought to hire people with a recent criminal history, supplying them with 'clean' papers and, in return, demanding absolute loyalty.

Common in Criminal

Surviving without high-ranking patrons would be unrealistic. Pavlenko used personal connections, bribes and patron-client relationships to bring them on board. He generously bribed government officials, heads of state bank departments, local police chiefs and secretaries of communist party committees, giving out money and valuable gifts, including cars.

Notably, the purpose of the bribes was not to conceal that the company was a fake; instead, they were used to enable its normal day-to-day functioning. 'In the Soviet economy', the study author explains, 'signing a contract and paying the money did not necessarily mean that the required resources, materials and equipment would be delivered on time – or at all. Therefore, many Soviet managers enforced contracts by enlisting assistance from supervising authorities or by bribing the contractors into compliance'.

In other words, the underground businessman reinvented no wheels but only turned those of commonly used mechanisms. The charges brought against him were nothing out of the ordinary either: falsification of documents, engaging in illegal business, misappropriation of state funds and overstatement of expenses. All this – from forged documents (remember artisans under the guise of cooperatives) to misrepresentation of costs in accounting books – were inherent features of the Soviet economy.

Covering up Unwanted Truth

Pavlenko was a good psychologist and organiser with an in-depth knowledge of the construction industry; he did not deceive his customers and invested most of the funds in the actual road construction. All of these reasons made MCA-1 an efficient company which completed road construction projects on time and within budgets.

The Soviet investigators were inconvenienced by this 'decency' which also allowed the defendant to testify:

'... we never engaged in anti-Soviet activities but only built [roads] as well as we could, and we were really good at it ... I committed many crimes but I have never done anything against the Soviet state and never aimed to undermine its economic power. We did not steal state funds from the bank but were legally paid for the work we performed'.

The effectiveness and scope of Pavlenko's operations was perhaps one of the reasons behind the attempt to reclassify his clearly economic offences into political crimes such as 'counter-revolutionism' and collaboration with foreign intelligence agencies.

The very existence of entrepreneurship of this magnitude could be seen as evidence of how flawed and inefficient the Soviet system was. According to the prevailing logic of that time, it was easier to explain the success of MCA-1 as an example of shady schemes by internal enemies sponsored by foreign masterminds.

The prosecution was not able to prove the charge of 'espionage', but the 'political' charge under article 58 of the Criminal Code was upheld in the verdict: the defendants were accused of trying to undermine the Soviet industry for counter-revolutionary purposes.

Pavlenko's trial was held between November 1954 and April 1955. The uncomfortable economic aspect of the case was played down by adding political charges and by hearing the case behind closed doors with no press coverage.

IQ

Study author:
Oleg Khlevniuk, Professor, HSE Faculty of Humanities, Leading Research Fellow, HSE International Centre for the History and Sociology of World War II and its Consequences
Author: Svetlana Saltanova, September 13