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April 16, 2006
David Warsh, Proprietor


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In Which, At Last, We Meet, Perhaps, Andrei Shleifer’s Evil Twin

Missing in the controversy over Harvard’s Russia scandal has been any attempt to explain, much less place a favorable interpretation upon, the actions of its two principals, Andrei Shleifer and Lawrence Summers. It’s missing because none of their many friends and allies has come publicly to their defense. They grumble instead among themselves about how the economists have been “screwed.”

Let me sketch the outlines of what seems, at least to me, a plausible explanation, if not exactly a defense, of what the two men, individually and severally, thought they were doing at certain points along the way.

It was in the mid-1990s that, while under contract to the US Agency for International Development to provide advice to the Russian government, Harvard economist Shleifer, his wife, his deputy and the deputy’s girlfriend went into business in Russia for themselves. The once and future Harvard economist Summers, Shleifer’s old friend and mentor, was overseeing US economic policy towards Russia all the while, eventually as Treasury Secretary.  He articulated no public position on the matter, either at the Treasury Department or, later, as president of Harvard.

The Harvard project ended abruptly in 1997, when various investments by the leaders of the Harvard team came to light.

The US Justice Department brought fraud charges in 2000, after Harvard declined to return its fee. Shleifer and Harvard last year settled the case, after a long, expensive and ultimately embarrassing legalistic defense. This year Summers announced he would resign the presidency of Harvard University in June; his conduct throughout the Russia scandal probably was part of the reason his resignation was sought. What’s the evidence of that, aside from the New York Times article last month taking note the influence of the McClintick article (“Did an Exposé Help Sink Harvard’s President?”) Certainly nothing very concrete:  The little corporation that governs Harvard and which accepted his resignation awarded him the highest honor at their disposal, a university professorship.

Why bother to continue to probe the matter? Because it is relevant to understanding what happens next. Summers is 51. Shleifer is 44. Both are among a handful of mid-career professors to have been officially deemed by their peers to be among the world’s most influential economists. Each has twenty or thirty more years of productive work ahead — work of some sort.

Until both sides of the story are better told and more fully understood, however, neither man can know with any certainty what he can hope to accomplish next.

The story starts back in 1979.  What otherwise would be legend, we know with some certainty because Massachusetts Institute of Technology professor Olivier Blanchard wrote it up in 2001 for the Journal of Economic Perspectives, after Shleifer won the John Bates Clark medal of the American Economic Association, awarded every two years to an outstanding economist who is under forty years old.

(He edged out other contenders, thanks in part, presumably, to the arguments of his Harvard colleague Claudia Goldin, a member of the Honors and Awards Committee. It was Goldin, too, who headed the search committee that a few years later settled on Shleifer to edit the prestigious Journal of Economic Perspectives.)

Shleifer arrived with his engineer parents in the United States in 1976, a 15-year-old émigré from the Soviet Union speaking very little English. He quickly enrolled in an inner-city high school in Rochester, New York.  Two years later, by a series of fortunate accidents, he entered Harvard College as a scholarship student. As a sophomore there, he went to see his instructor, a young economist named Larry Summers, with a view to correcting certain errors in Summers’ math in a recent paper.

“While characteristically unimpressed by the argument that his work contained flaws, Larry was sufficiently impressed to hire Andrei as his research assistant.  What followed has been a long period of close friendship and mutual education,” Blanchard wrote. He did not speculate on the nature of the bond. Others have felt that Shleifer possessed the gifts of mathematical fluency and penetrating depth that Summers lacked, while Summers brought curiosity, drive and a formidable skill at economic argumentation to the friendship.

Something of the intellectual atmosphere in those early days can be inferred from the toast of J. Bradford DeLong’s at the festive party in 1999, after the Clark Medal was voted.  To explain Shleifer’s success in the years since they were Harvard freshmen together, DeLong (a professor at the University of California at Berkeley who worked for a time under Summers at Treasury) invoked H.G. Wells’ idea of an “open conspiracy,” devoted to “the betterment of the human race,” and operating in opposition to the “small and secret conspiracies that decided most of history.”

Its members would “intensively study the social world, to determine what institutions and practices worked and what didn’t — what things contributed to human progress, and what things did not.”  They would “communicate what they had learned through their studies to others.” Most important, “they would be tolerant, listen[ing] to what others had to say, to what others had learned as a result of their studies: for no one has a monopoly on truth or on insight, and good judgments can only be arrived at by close and open-minded scrutiny of evidence and opinions.” Others who gave speeches that evening included MIT’s Rudiger Dornbusch, Harvard’s Oliver Hart, Summers, Blanchard, Shleifer’s student Florencio Lopez de Silanes (fired last year by Yale University for double-billing his expenses, Lopez now teaches in Europe), and Andrei’s father Mark. But it was probably DeLong who best portrayed the way the members of group preferred to think of themselves.

Both Summers and Shleifer rose rapidly in the decade after they met. Shleifer got his PhD at MIT, taught at Princeton for a year, then received tenure at the Graduate School of Business of the University of Chicago. Summers went to Washington to work for his thesis adviser, Harvard’s Martin Feldstein, at the Council of Economic Advisers during the first Reagan administration, then back to Harvard as one of its youngest full professors.

In 1988, Summers was chief economic adviser to Michael Dukakis’ presidential  campaign. He returned to Washington in 1990 as chief economist for the World Bank, succeeding Stanley Fischer. In 1991, he took Shleifer along on a Bank mission to advise the government of Lithuania. He also enthusiastically backed Harvard’s offer of a professorship, which Shleifer took up in the autumn of that year, with some regret, since his heart in many respects remained in Chicago. Shleifer understood, however, that he could never hope to advise the Russian government as long as he was associated with the famously conservative university.

At that point, things began to get complicated. In August 1991, a coup attempt failed to dislodge Mikhail Gorbachev, who was pursuing a gradualist approach to deregulation in hopes of winning massive aid as part of a “Grand Bargain” with the West. Gorbachev remained in office until December, when Boris Yeltsin and the leaders of Belarus and Ukraine simply withdrew from the Soviet Union. Yeltsin immediately undertook the radical economic transformation of Russia that Gorbachev had long resisted. The US government pledged support, cautiously at first, then with gathering enthusiasm.

In October 1992, President George H. W. Bush signed the Open-Market Support Act, authorizing up to $350 million in aid to Russia, to be managed by the Agency for International Development. A few weeks later, he was defeated by Bill Clinton, and Clinton’s advisers, Robert Rubin and Larry Summers among them, took the conn. In December, Harvard was awarded a USAID contract to provide unbiased advice to the Russian government on how to convert its heavily planned economy to one governed by market principles.

In Moscow, there was turmoil. After 75 years during which private property beyond the level of household effects had been all but forbidden, there was no obvious way to place state-owned assets in private hands. Poland had led the way into overnight deregulation in January 1990 with a “big bang” — prices decontrolled, the zloty devalued, private companies permitted open for business and foreign firms to invest. The economists around Yeltsin were determined to do the same. They were the new Bolsheviki (the word mean majority faction), market Bolsheviki, determined to do everything fast, on the grounds that only an abrupt transfer of state-owned assets to private hands could free the economy of deeply-entrenched bureaucratic control.

The best account of this I know of how this proceeded is The Oligarchs:  Wealth and Power in the New Russia, by David Hoffman, Washington Post bureau chief in Moscow during the second half of ’90s. Embedded in Hoffman’s powerful narrative are the views, often transparently self-serving, of many members of the braintrust which presided over the great sell-off, including Yegor Gaidar, Anatoly Chubais and Mikhail Berger, one-time economics editor of Izvestia.  The tension between what Yeltsin said he wanted — “We need millions of owners, not hundreds of millionaires,” he would intone — and what eventuated is painfully apparent in The Oligarchs. Consider the following story.

Chubais, the red-haired St. Petersburg economist who played a central role throughout, told Hoffman at one point, “Every enterprise ripped out of the state and transferred to the hands of a private owner was a way of destroying Communism in Russia. This is how we understood the situation, without any exaggeration. And every extra day we worked, we could privatize another ten, twenty, or thirty enterprises. And at that stage it didn’t matter at all to whom these enterprises went, who was getting the property.  It was absolutely unimportant whether that person was ready for it.”

In all this Bruegelesque landscape, one citizen is of particular interest. Meet Boris Jordan, a young American citizen whose grandfather, also Boris, had fought the communists across Europe as colonel in the White Russian army, even making common cause with the Germans for a time, eventually retreating to New York. The younger Jordan, born in 1967, grew up amid tales of the good old days in St. Petersburg before the revolution, went to Russian school on Saturdays and spoke Russian at home. “An incredible hustler,” as Hoffman describes him, he yearned to return to Russia. He even took and passed the Foreign Service examination, “but the State Department said he would never be sent to Russia as a diplomat.” So the well-connected youth went to work selling airplane leases in Latin America.

It was in 1992 that Hans-Joerg Rudloff, president of Credit Suisse First Boston, hired Jordan and sent him to Moscow — the same year that Shleifer arrived in town for USAID.  Rudloff himself had memories, of rebuilding his family’s leather factory in Germany after World War II; he had hopes that an economic miracle would unfold in Russia as in Germany. He paired Jordan with Steven Jennings, a veteran of the privatization auctions that had taken place in New Zealand during the 1980s. Their instructions:  find ways of making money in the Great Sell-Off of Russian assets.

Jordan and Jennings pursued a time-honored strategy:  they hung around the offices of the State Property Committee, furnishing the needy young Russians who worked there with office supplies, coffee, information. They courted Chubais, offering to represent the government for free in the complicated business of its first sale of state property to the public.  The enterprise was selected: Bolshevik Biscuit Company, was a beloved cookie company that had been doing business in Moscow since 1855. The date was set; the sale took place, in December 1992. Insiders got 51 percent of the company; outsiders, wielding the stylishly engraved “privatization checks” the government earlier had distributed to 148 Russian million citizens, bid for the remaining shares.  In the end, the end, Boshevik Biscuit changed hands for $654,000.

Jennings had seen an almost identical company in Eastern Europe sold to Pepsi for $80 million a few months earlier. Jordan later told the Post’s Hoffman, “We looked at each other and said, ‘We are on the wrong side of this deal.  We shouldn’t be representing the government. We should be buying the stuff!’”

“‘We quit!’ they said to each other.”

And just as quickly, they went to work for the series of bold and energetic insiders who soon would become known to the world as Russian oligarchs.

Here, then, was one of H.G. Wells’ ubiquitous “small and secret” conspiracies throughout human history that had been such powerful agents of change — in this case, simply a corporation.  In the next few years, Jordan and Jennings built Credit Suisse First Boston’s Moscow office into one of the city’s most powerful investment banks.

The auction of the cookie company had inaugurated an astonishing fire sale of Russia’s assets. Factories, utilities, media, banks, mineral rights, natural resources were sold off to the cleverest bidders over the next few years, with little concern for basic fairness — and CSFB was in the thick of it.  Jordan left in 1995 to start his own investment bank, Renaissance Capital, and in 1998 founded Sputnik Group as well.  But his relationship with his old employer remained extremely close, and in 1996, as Yeltsin’s government rushed to create a mutual fund industry (in the midst of a difficult re-election campaign), it was CSFB that elbowed its way to the head of the queue seeking to a license to issue shares.

It was in these circumstance, then, that the mutual fund company with which Shleifer was behind the scenes associated, Pallada, surprised everyone by obtaining the coveted first license from the Russian Securities Commission — one of the many agencies which USAID paid Shleifer to advise. A young investment banker named Elizabeth Hebert had founded Pallada the year before, with the assistance of Shleifer’s deputy, Jonathan Hay.  Soon she became Hay’s girlfriend. A few months later Shleifer and his hedge-fund manager wife provided crucial investment capital, and before long, Beth Hebert was running Pallada out of the Harvard team’s office, using its phones, its faxes, its drivers. Yet it was widely recognized that CSFB had been far ahead in the baroque process of preparing its application.

A young lawyer who worked for Hay on the Harvard project described what happened next when he was deposed years later by government lawyers. Louis O’Neill said, “I went to Jon [Hay] and said, “This is kind of strange. Why this and not CSFB?…. He said something to me that made sense…. He said, “Well, this is a very serious pilot project.  It will be… basically, the first mutual fund in Russia.  We want to have someone as the leader, as the first person, who we are friendly with and who we can monitor very closely for transparency, fairness, proper procedures, proper accounting…” I remember the phrase he used because it made sense. “We’ll run water through the pipes on this one, see where the leaks are, fix them, and then we’ll open it up to the larger market.” That to me was convincing.

“… It seems strange to me that Jonathan was running the project, responsible for all the donor money, and his girlfriend was in the office running a private company…. …I’d gone there sort of out of law school, excited, eager, bright-eyed, maybe to do some good, and it all ended on a kind of a sour note. So I just felt kind of bad about it, kind of wished it would all go away at the time,” said O’Neill.

A few months later, whistleblowers attracted the attention of USAID in Washington.  After a brief investigation, the government fired Harvard, and the project came crashing down.

A mistrust of CSFB was a current theme in the government’s subsequent investigation.  For instance, when in 2002 Larry Summers was asked about an attempt to penalize Credit Suisse by excluding it from a Credit Markets Forum sponsored by the US Treasury Department, he answered, “There were certain clouds of impropriety, whose validity I have no ability to judge….”

Fans of Deadwood, HBO’s horse opera set in the Black Hills in 1877 on the eve of South Dakota’s statehood, will recognize the moral climate here. An endless series of power struggles unfold among players of widely different backgrounds in an outlaw community in the throes of becoming legitimate. Motives molt, alliance shift and tactics change with each new bit of news. No one’s skirts remain completely unsoiled.

But storytelling, however compelling, is not the same as making US government policy. If will require the work of  many scholar-years before  we can reasonably compare the path not taken in Russia — the gradualism of the Grand Bargain — with the shock therapy that produced the oligarchs, the Siloviki and the resurgence of the state under Vladimir Putin. But it took a Boston jury almost no time at all last year to decide that, whatever  ends Harvard Andrei Shleifer might have had in mind, he clearly violated his agreement with the US government when he began investing in Russia.

A comparison of the career paths of Boris Jordan and Andrei Shleifer leaves no doubt that the two chose very different paths — a pursuer of commercial interests and a guardian of pursuers of commercial interests.  What happened after their careers began to converge in Moscow in 1992 will be a matter of speculation, probably forever. Today Jordan is a man of enormous wealth, though he was fired by the Kremlin in 2003 from his job as head of Russia’s third biggest television network. Chubais, who sold Russian assets to the oligarchs in order to break the monopoly of the state, became an extremely wealthy man himself, though with net worth of only around $1 billion, perhaps not quite an oligarch.  As head of Russia’s electricity system, he has been seeking to break the system into competitive parts, a la American Telephone and Telegraph and the Baby Bells.   

About Shleifer’s innermost ambitions, we’ll never know, since his standing as Washington’s privateizer-in-chief in Moscow collapsed not long after Yeltsin’s second-term began, before the scandals of the loans-for-shares program, before Russia’s real estate property laws could be reformed. He may not know himself.  Today Shleifer lives modestly with his family in the leafy Boston suburb of Newton, in a house that was mortgaged as part of his settlement with the Justice Department.  A villa in France that the family is said to own wasn’t in the agreement.

But there remains the matter of the rules, as they have evolved in the United States over the century in which official corruption has become a crime instead of a commonplace. It is instructive to note that whereas the State Department recognized immediately the conflicts and character traits that disqualified Boris Jordan from diplomatic service, Harvard not only cleared their newly-hired professor to advise the Russians, but sent the 31-year-old émigré to Moscow as head of its project, without civilian (non-academic) supervision.

But then that’s another story.

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