Russian City’s Privatization Effort Reaping Wages of Bitterness : Economy: Nizhny Novgorod is racing ahead with a bold effort to sell state property. But residents say the program is ill-conceived and may impede a free market.

NIZHNY NOVGOROD, Russia —  As they watch reformers demolish the last traces of a decrepit Communist economy, residents of this Volga River city seem stunned and bitter.

Moving faster than most Russian city governments, the brash young reformers in charge here have spent eight months selling off state-owned businesses, dividing up collective farms and converting defense plants into consumer-goods manufacturers in a bold effort to vault into the world economy.

But while the rapid pace has drawn enthusiastic cheers from both Russian and Western observers, residents say many reforms have been ill-conceived, poorly executed and heavy-handed. As a result, they complain, administrative decrees issued in the name of reform may actually stymie initiative and bog down the nascent free market.

The potential--and the pitfalls--of Nizhny Novgorod’s program for economic change stand out especially clearly in the sphere of privatization.

By law, all small businesses must be sold into private hands by year’s end, when Russian President Boris N. Yeltsin plans to begin privatizing most larger, state-run industries by means of a voucher program that will give each citizen an investment coupon worth about $60.

Nizhny Novgorod, a city of 1.5 million located 240 miles east of Moscow, was the first in Russia to move toward Yeltsin’s goal, inaugurating weekly auctions of businesses in April. So far, entrepreneurs have taken charge of 200 small shops, restaurants and service businesses--only about 15% of the total number, yet more than in most cities.

But walk the hilly streets of this city, once called Gorky, and talk to shopkeepers and customers, and it becomes clear that Nizhny Novgorod’s vaunted privatization program is riddled with problems.

The city, by draw, selects 20 small state-owned businesses for auction each Tuesday. After designating a property for privatization, the city waits three weeks before auctioning it. But employees complain that even that grace period is insufficient for them to rustle up the money to bid on their workplaces.

Further, 80% of businesses auctioned aren’t sold outright. Instead, investors bid for the right to lease the stores for five years.

“This is what these blockheads in our government call privatization,” said Vera Pavlova, 55, who with her co-workers paid 3 million rubles--$158,000 at current exchange rates--for the dubious right to pay the municipal government rent each month to lease back their cheese store.

“We bought nothing but air,” Pavlova said, spitting on her office floor to express her anger. “How can we feel like real owners when the future is so murky?”

Dmitri Bednyakov, 39, Nizhny Novgorod’s jeans-and-shirt-sleeves-clad mayor, and his cadre of nattily dressed Western advisers defend the leasing system as a necessary interim step. Putting off the sale of businesses for five years, they say, will give them time to assess the real market value of each store, since there really isn’t a commercial real estate market yet. It also will ensure that the government gets a fair price for its properties.

To encourage tenants to behave like owners despite the tenuous leasing arrangement, Nizhny Novgorod’s plan carries built-in incentives for investment. Whatever managers spend on repairs, additions or technology will count as a credit toward the purchase price in five years.

Yet here too, disgruntled entrepreneurs have found that they can’t always practice what government gurus preach.

In the five months since Masha Ryabova and her four co-workers bought the right to lease a tiny used-book and antique store, the blond, energetic 21-year-old has been trying to find the money to spruce up the dusty shop.

She wants to replace the rickety iron shelves with solid wooden bookcases but says she cannot find a bank to lend her even the ruble equivalent of a few hundred dollars. So she must make do with what she has; she piles Tarzan stories and English phrase books on overflowing shelves next to medieval philosophy texts and antique icons.

“Unfortunately, privatized businesses seem like too much of a risk for most banks,” said Alexei Mikhailov, 29, a consultant with the Moscow-based Center for Economic and Political Research who advises Nizhny Novgorod’s government. “They would rather lend to government stores, which they know won’t ever go bankrupt.”

Far from getting loans, in fact, Ryabova has been socked with astronomical fees for everything from telephone “registration” to police “protection.”

She recently received a bill for 25,000 rubles--about $135, but almost as much as her entire staff’s wages for a month--to “re-register” her phone. She considers the charge pure extortion by the municipal phone company, a monopoly. “Just because we’re a private business now, everyone thinks we’re rich,” Ryabova fumed. “It’s always pay, pay, pay.”

Adding to the financial burden are crushing tax rates--60% to 70% of a business’s net income goes to municipal, regional and national governments, according to Bednyakov.

As they struggle to fit their stores into the economic structures going up haphazardly around them, the cheese-shop director and bookstore manager say they feel thwarted at practically every turn.

Not long ago, for example, a traveling salesman came by downtown Nizhny Novgorod peddling tins of hard-to-find caviar at Pavlova’s Dmitrivsky Cheese Shop. Pavlova wanted to buy the caviar. The vendor wanted to sell it. The problem: He insisted on payment in cash and, though Pavlova had stacks of rubles in her desk, by law she couldn’t use them.

Some months earlier, Yeltsin had signed a decree forbidding store owners from paying suppliers in cash. The new law was designed to keep rubles circulating to cash-strapped industries, many of which were unable to pay their workers’ salaries, rather than let them pile up in vendors’ pockets.

Whatever the theory, in practice Yeltsin’s decree ended up frustrating the development of a free market. Many start-up entrepreneurs refuse to sell goods unless they can receive cash. The alternative method of payment, transferring money from the buyer’s bank account to the supplier’s, can take three weeks.

“It’s such hogwash,” Pavlova said, still angry at the memory of the profit she could have made selling caviar next to the wheels of cheese and slabs of butter piled high on her shop counters. “If we could pay in cash, we’d have better movement of goods, more variety on the shelves, more sales and more profits.”

Problems notwithstanding, privatization has prompted some positive changes. At the cheese store, for example, Pavlova extended daily hours and hired more clerks to speed service--though customers still must wait in three separate lines before receiving a wedge of bland Russian cheese wrapped in coarse brown paper. And across town in her bookstore, Ryabova said she has noticed a flurry of new customers, curious about whether a privatized business would offer better service.

But overall, the effect seems minimal. Four months after the first privatization auction, 60% of Nizhny Novgorod residents polled said they had not noticed any changes in the quality or price of goods in the newly private shops.

Still, city leaders insist their program will pull Nizhny Novgorod out of the economic crisis now shaking Russia.

“All throughout Russia, the economic situation will continue to get worse,” Mikhailov said. “Inflation will climb, production will fall, unemployment will grow. And Nizhny Novgorod will follow right along with the rest of Russia. But we have to make sure we’ll be positioned to come out of the slump first. There’s no other way out. Things won’t turn around tomorrow or the day after, or even later this year. But in two to three years, this city will be a leader.”