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The Informal Economy and Post-Soviet Transition

HSE researchers found a positive correlation between the informal economies in Soviet republics and their post-Soviet adaptation to the free market


The informal economy is a global phenomenon found in both developed and developing countries. There remains no consensus among academics about how the informal sector impacts overall economic growth. The Soviet economy, particularly during the last decade of its existence, is an interesting case to examine in this context. While informal economic relations had a destabilising effect on the formal economy, they somewhat improved the shortage of consumer goods and helped prepare the transition from a centrally planned economy to a market economy. Elena Kalmychkova and Alexander Lipanov of Lomonosov Moscow State University and HSE University examined the informal economic sectors of former Soviet republics and found that regardless of any potential negative impact, these informal economies eventually helped people adapt to a post-transition free market environment.

How was the informal economy first 'discovered'?

It was only in the second half of the 20th century that economic science acknowledged the phenomenon of informal economies and began to examine it, largely following the economic development model put forward by British economist W. Arthur Lewis, who described third-world countries as having a large sector of traditional (pre-industrial) economy falling outside of government regulation and taxation.

'In the early 1970s, the International Labour Organization (ILO) used Lewis' model to guide its field missions to less-developed African countries such as Kenya, Ghana, and some others. These missions often found the informal sector operating outside of government control to outperform the formal sector,' explain Lipanov (MSU) and Kalmychkova (HSE, MSU) in their paper published in the Journal of Economic Theory.

While Lewis assumed that the traditional sector would shrink as a result of industrial development, his theory was not confirmed, Kalmychkova and Lipanov note. Indeed, studies in Africa suggest that the informal economy tends to increase despite industrial growth.

At some point, the academic community began to question the term 'informal sector' as being inaccurate and too narrow. Replacing it with a broader concept of the ‘informal economy’ makes it possible to study the relationship between the formal and informal economies within the same region or country, Lipanov and Kalmychkova observe.

What do economists disagree on?

Over a few decades, researchers have come up with a range of different perspectives on the informal economy, in particular on how it impacts overall economic development. While some authors argue that informal firms are more efficient and benefit society by improving people's wellbeing and offering consumer goods at lower prices, others insist that such firms are essentially parasites that drag down a country's overall productivity and gain substantial competitive advantages through non-market methods.

In terms of the benefits brought by informal economic actors, some modern authors mention their role in helping national economies avoid deficits. These authors often quote Peruvian economist Hernando de Soto, who described extra-legal firms as embodiments of entrepreneurial spirit and energy struggling to overcome government barriers to doing business.

However, de Soto makes a distinction between short-term and long-term effects of the extra-legal, or informal status. 'While in the short term, the informal sector can have a positive impact on employment, incomes and entrepreneurial activity, these are constrained in the long run by a lack of legal protection creating an unfavourable investment climate,' note the authors with reference to de Soto’s work.

What marked the beginning of the informal economy in the USSR?

Since the 1970s, scholars have acknowledged that the informal economy is not limited to developing countries, but is also relevant to industrially developed and socialist countries—the latter in particular.

According to the authors, there are two schools of thought as to when the informal economy gained momentum in the Soviet Union. The first theory holds that it took off soon after Stalin's death. 'Once Khrushchev came to power, the informal economy emerged in the USSR and continued to grow, reaching its peak towards the last days of the Soviet Union and into the first decade following its collapse,' Lipanov and Kalmychkova write.


The other theory’s proponents argue that the informal economy operated in the USSR at all times, and first peaked during the New Economic Policy or perhaps even earlier, in the early years of Soviet rule under Military Communism, when the regular market was outlawed and people created a shadow market instead, the authors comment.

What was the scale of the Soviet informal economy?

There was little research into the informal economy in the USSR, although Soviet economists first looked at this phenomenon (without using the current term) back in the 1920s. But between the early 1930s and late 1980s, no academic discussion of shadow phenomena was possible in the Soviet Union, note Kalmychkova and Lipanov.

Internationally, studies of the USSR's informal economy began in 1977, following a paper by the American economist Gregory Grossman. The authors note, however, that being empirical, Grossman’s work was plagued by a lack of reliable data, as were other contemporary empirical studies. At that time, proposed estimates of the USSR's informal economy varied between 50 billion rubles and 350 billion rubles a year and both appear to be inaccurate.

But eventually, new data became available, including that obtained from interviews with Soviet immigrants to Israel, contributing to better quality and reliability of empirical studies. For their research, Lipanov and Kalmychkova used data for 1980 to 1989 presented in a paper by Byung-Yeon Kim from South Korea and Yoshisada Shida from Japan.

These two authors measured the informal economy in the Soviet republics between 1965 and 1989, using a definition of the informal economy as having three components:

  1. self-consumption of agricultural products.
  2. private trade between individuals with the intent to make profit, ie 'buy cheap, sell high', which was a crime of 'speculation' in the USSR.
  3. redistribution of money among citizens (such as repayment of personal debts and loans; Kim and Yoshisada assume that these debts and loans were mainly used for trading between citizens and were thus a type of informal financial services).

Kim and Yoshisada use only the second and third components to measure the informal economy, because self-consumption of agricultural products is almost impossible to estimate. The informal economy’s share refers to the ratio of households' aggregated spending in the informal market to the respective republic's NMP ( Net Material Product , a macroeconomic indicator that is a conceptual equivalent of GDP for socialist countries).

The informal economy in Soviet republics in the 1980s as a percentage of NMP

Republics of the USSR
















































































Source: Lipanov and Kalmychkova's paper.

Kim and Yoshisada conclude that the net effect of the informal economy in the USSR was not necessarily negative. It played a role in the planned economy not only by reducing shortages and supplying consumers with scarce goods, but also by pushing the overall economy towards an equilibrium.

Assessing the impact of the informal economy on post-Soviet development

According to Lipanov and Kalmychkova's core hypothesis, the informal economy was the only reliable source of information for citizens on how a market economy works. Soviet citizens learned about the free market and the ‘rules of the game’ based on their personal experience with the informal economy. 

'We can therefore assume that an individual's engagement with the informal economy will inform their future perception of a free market economy,' say the authors. This perception could be negative due to a strong association shared by many Soviets between the free market and illegal/criminal activity. 'But the effect could also be positive, because prior exposure to the informal economy prepared people to navigate a market economy and facilitated their adaptation to a changing reality,' the researchers explain. One can further assume that informal firms which already have experience running their business will be the first to establish themselves in a new free-market environment.

The authors tested both hypotheses by examining the relationships between the size of informal economies in Soviet republics in the 1980s and their citizens' attitudes towards a free-market economy in the 2000s, after these countries became independent. The calculation uses averages for the size of informal economies in the Soviet republics to minimise the impact of fluctuations.

The informal economy’s effect on attitudes towards the post-Soviet free-market transition was measured based on the EBRD's Life in Transition Survey (LITS) data from 2006. The survey’s objective was to provide a comprehensive assessment of life satisfaction and living standards in countries that have recently experienced economic and political transition.

In each of the LITS survey countries, a nationally representative sample of households was selected, and one interview was conducted with a random member of each household. Lipanov and Kalmychkova note that such data has never before been used in econometric analysis of the informal economy.

What was the impact of the informal economy on attitudes towards a market economy?

Lipanov and Kalmychkova's statistical analysis did not find any correlation with the republic's geographical location—eg the results for southern republics showed a substantial difference between Armenia, where the attitudes were more positive, and both Georgia and Azerbaijan (with differences between the latter two as well).

Overall, the results revealed a positive correlation between the informal economy's size and the observed fixed effects. 'There is a positive relationship between the studied variables. Based on our findings, we can confirm that in former Soviet countries, people's preferences regarding the country's economic system in the 2000s are positively correlated with the size of their republic’s informal economy back in the 1980s,' the authors comment.

In other words, people in post-Soviet countries which had an active informal economy in Soviet times are generally more accepting of a free market economy. The authors' final conclusion is that in the USSR's case, the informal economy had a positive impact on the republics’ post-Soviet economic development.


Study authors:
Alexander Lipanov, Lomonosov Moscow State University
Elena Kalmychkova, Associate Professor, Department of Applied Economics, HSE Faculty of Economic Sciences
Author: Marina Selina, October 10, 2022