S/SNSC Files, Lot 63 D 351, NSC 104–Supplemental Reports

Memorandum by the Executive Secretary of the National Security Council (Lay) to the National Security Council 1

secret

Subject: U.S. Policies and Programs in the Economic Field Which May Affect the War Potential of the Soviet Bloc

Reference: NSC 1042

The enclosed copies of an analysis of the “Vulnerability of the Soviet Bloc to Existing and Tightened Western Economic Controls”, prepared in the Department of State (Appendix A), and of an analysis of the “Trade of the Free World With the Soviet Bloc”, prepared by the Economic Cooperation Administration (Appendix B), are transmitted herewith for the information of the National Security Council in connection with its consideration of NSC 104 on the subject.

Both the enclosures are referred to in the second paragraph of the letter from the Secretary of State to the President contained in NSC 104.3

James S. Lay, Jr.
[Appendix A]

Report Prepared by the Office of Intelligence Research of the Department of State

secret

OIR Report No. 5447R4

Vulnerability of the Soviet Blog to Existing and Tightened Western Economic Controls

i. the soviet bloc as a whole

This report attempts to determine to what extent the Soviet bloc is vulnerable to economic warfare on the part of the Western powers. For working purposes the bloc includes the following countries: (1) the USSR, (2) the Eastern European orbit of the USSR consisting of Poland, Eastern Germany, Czechoslovakia, Hungary, Rumania, Bulgaria, and Albania; (3) China in the Far Eastern orbit of the Soviet Union. Korea, Outer Mongolia, and certain Communist-controlled [Page 1036]controlled areas in Southeast Asia are omitted because of their minor economic significance and the absence of reliable data on them. The countries outside the Soviet realm are frequently referred to in this study as “the West.”

Interference with imports and exports, with efforts to obtain foreign technological information, with transportation links and financial relations abroad is necessarily harmful to the USSR and its sphere of influence. By systematically examining the Soviet bloc’s foreign economic relations, its dependence on such contacts, and the effects of a more or less complete blockade, it is possible to spot sensitive areas, both geographical and functional. It need hardly be mentioned that statements on the Soviet bloc economy are to a very large extent based on estimates, many of them tenuous, and that there is no yardstick for measuring and comparing vulnerabilities. Even more important than the limitations of research on the countries behind the Iron Curtain are the limitations of economic warfare itself. The first part of this report assesses the vulnerability of the Soviet bloc in general, its encouraging as well as difficult aspects, from the US point of view, while the subsequent discussion points out specific Soviet bloc vulnerabilities in the different fields of foreign economic relations.

A. Soviet Bloc Dependence on Imports from the Outside World

The core of the problem is the Soviet bloc’s vulnerability to Western export controls. Measures in other fields are important chiefly insofar as they affect the bloc’s ability to import. Thus an embargo on imports from the Soviet bloc or the freezing of its financial assets endangers the East’s capacity to pay for its own imports; severing transportation links prevents the Soviet realm from receiving goods from abroad. The bloc is sensitive to measures against its imports because (1) its industrial establishment is lagging behind that of the West and is being forced into rapid expansion, and (2) because some essential materials cannot be produced or are not being produced in sufficient quantities within its boundaries.

The first reason is the more important one. With the exception of Eastern Germany and the Czech lands, the Soviet bloc consists either of newly industrialized or agricultural economies. Since practically everywhere industries are built up at a fast rate, the bloc as a whole is short of capital in general, of capital goods in particular, of managerial and engineering talents, and of highly skilled labor. All of these countries are seeking to obtain from abroad industrial equipment, especially high quality machines and instruments, some vital raw materials and semi-finished goods, and technological information. All of them are after spare parts for the vast amount of assorted foreign equipment acquired in former years and increasingly in need of repair.

Scarcity of raw materials is due only to a small extent to the parsimony of nature. The Soviet bloc covers a large portion of the globe, [Page 1037]and with the exception of natural rubber, a few of the rare metals, and certain gems, there is no lack of natural resources. The main problem is to get them out of the ground and process or otherwise utilize them; thus it is not the deposits but the skill and equipment that are wanting.

As a result of US controls and the unwillingness of American business and labor to trade any longer with Communist governments, US exports to the Soviet bloc have all but ceased. In 1947 commercial exports alone (i.e. excluding lend-lease “pipeline” and relief shipments) to the USSR, Poland, Czechoslovakia, Hungary, Rumania, Bulgaria, and Albania amounted to $207.5 million; during the first 10 months of 1950 they dwindled to $26.1 million; in the month of October they did not even reach the million dollar mark. But trade between the Soviet bloc and the rest of the world has remained fairly stable in recent years; a rough estimate for 1950 shows that the USSR and its satellites, including China, managed to import about $1.7 billion worth of goods from the West.

It is true that this amount is less than one-fifth of what the US imported ($9 billion in 1950) and that in comparison with the aggregate national output of the Soviet bloc, it is little more than 1 percent. But with few exceptions it consists of goods essential for military preparedness and for the economic basis of military preparedness. Consumers’ goods hardly figure among the imports; the bulk consists of vital raw materials and semi-manufactured goods such as metals and metal products, industrial diamonds and abrasives, important fibers, basic chemicals and rubber as well as all sorts of capital goods, machinery, and equipment, both for current use and for stockpiling purposes. Lack of statistical data prevents a commodity breakdown of the entire Soviet bloc trade, but in 1950 crude rubber imports alone amounted to about $150 million, raw cotton imports to $175 million, wool imports to $75 million, if not more, and industrial machinery and transportation equipment to a minimum of $200 million. More information is available for Western Europe’s 1949 exports to the USSR and its Eastern European orbit. These exports amounted to $750 million, thus representing almost half of the Soviet bloc’s entire imports, the remainder consisting chiefly of raw materials purchased in the Far East and other parts of the world. The major commodity groups within Western Europe’s exports are the following (in millions of dollars):

Agricultural products 40. 7
Textiles 97. 2
Chemicals 54. 1
Iron and steel products 57. 8
Nonferrous metals and mannf. 42. 7
Machinery 165. 1
Transportation equipment 31. 7

[Page 1038]

The effectiveness of existing controls over exports to the Soviet bloc and of a complete future embargo on such exports can be appraised in terms of two objectives of economic warfare:

(1)
reduce current levels of production in the Soviet bloc;
(2)
reduce or arrest the expansion of Eastern productive capacities.

The following survey groups commodities now being shipped to the East—or at least in demand by the Soviet bloc—according to whether their embargo would satisfy objective (1) or (2).

(1) Embargo on the export of these commodities to the Soviet bloc would impair maintenance of existing levels of production within the Soviet bloc:

Iron ore: a Swedish embargo would seriously lower satellite steel output until reconversion to Soviet ores was effected.

Steel: alloying metals, including nickel, but excluding manganese and chrome.

Tin

Copper

Industrial diamonds and gems (difficulty to enforce controls should be noted)

Piezo-electric quartz

Sulphur, pyrites, and sulphuric acid

Graphite } and manufactures thereof, but special types only
Mica
Asbestos

Natural rubber, of which, however, substantial stockpiles exist.

Textile fibers, especially long-staple cotton, apparel wool: embargo would cause 10–15 percent decline in Soviet textile output and very substantial decline in satellite output.

Ball and roller bearings, including high-grade bearing steels and parts: present controls have little effect or are evaded; chief sources are Sweden, Switzerland, Italy, Austria; embargo would have serious effect, especially on satellite output, although stockpiles exist.

Electronic equipment, as well as materials and component parts for it; embargo would have direct effect on military potential.

Abrasives, especially critical grain sizes: embargo might impair present levels of output of bearings, precision instruments, military items, etc; chief sources are: Norway and other European countries.

Spare parts: numerous types of replacement parts for equipment previously acquired by the Soviet bloc in the West are essential for continued operation of the equipment. In the cases where they can be reproduced within the bloc, a significant drain on the bloc’s skilled labor and productive capacity may result.

(2) Embargo on the export of these commodities to the Soviet bloc would substantially impair ability to raise production above existing levels:

  • Equipment for petroleum exploration, drilling, and refining, especially certain crucial components, such as drills.
  • Power generating equipment and, in this connection, copper, already listed in group (1).
  • Anti-friction bearing producing equipment.
  • Machine tools (only complex, specialized, automatic types).
  • Precision instruments: present controls probably ineffective: embargo would substantially retard expansion in a number of important industries, would also hamper research.
  • Shipping, viz. an embargo on acquisition of new vessels and on chartering operations.

B. Soviet Bloc Vulnerability to a Ban on Its Exports

It was mentioned earlier that interference with Soviet bloc exports would be effective chiefly as a way of cutting off the means to purchase abroad. There would be no general crisis as, say, in Brazil in case of a blockade of its coffee exports. Most of the Soviet bloc’s export goods could be easily diverted to domestic use; a reallocation of resources would be necessary in only a few instances. Thus grain which could not be sold abroad would be used to increase livestock herds or strategic stocks, and some acreage now under grains might be employed for technical crops. The obvious areas of possible crises are the Polish coal industry and various industries in Czechoslovakia producing luxury and semi-luxury goods for export to the West. In these cases some capital waste and temporary unemployment would be inevitable, but the degree of vulnerability of the countries immediately affected is low, to say nothing of the Soviet bloc as a whole.

C. Limitations of Soviet Bloc Vulnerability

This leads to the limits of Soviet bloc vulnerability. The effectiveness of economic warfare against the Soviet bloc is limited, first, because the area is little exposed to Western economic action, and, second, because it has forces of resistance and recuperation.

With respect to the first point, it must be repeated that the Soviet realm has a high degree of self-sufficiency. Not much more than 1 percent of its gross national income is derived from exchange with the outside world, as compared with 3 percent for the US and 18 percent for the UK. Moreover, part of the Soviet bloc trade is out of reach of the US; it is carried on with countries which, for political or other reasons, are interested in continued commercial relations with the USSR and its retainers. Sweden and Iran are examples of countries which prefer to humor a dangerous neighbor by doing business with him. In addition a vast net of more or less covert trade channels has developed in recent years through which the Soviet bloc contrives to obtain products which figure on Western control lists. Such shipments are, of course, expensive because of circuitous hauls, price gouging, and middleman commissions, and it is known that Soviet and satellite leaders are greatly annoyed by the adverse effects of US policy on the terms of their trade. In this connection it must be pointed out that [Page 1040]economic warfare is also a costly operation for the West and particularly for the US and that the relation between effects on the East and cost to the West must be kept in mind.

Soviet power of resistance is based on the following circumstances:

(1)
Modern technology is well adapted to finding substitutes, at least for marginal purposes.
(2)
In the course of a few years labor and capital can be reallocated so as to alleviate critical shortages.
(3)
In a socialist economy it is relatively easy to spread the damage done by economic warfare over the economy as a whole. No private firm will succumb under the weight of losses; workers temporarily idle can easily be kept on the payrolls.
(4)
The gradual development of centralized planning for the Soviet bloc as a whole means that deficits in one part of the Soviet bloc are covered, as far as possible, by surpluses available elsewhere and a more or less common strategy is applied to dealings with the outside world. In the long run the integration of the satellites into the Soviet economy involves a new, Moscow-directed division of labor between the members of the Communist empire. This aspect of the vulnerability problems requires separate consideration.

D. Soviet Bloc Integration as a Hedge Against Western Measures

The effectiveness of Western economic measures against the Soviet bloc depends to a considerable extent on the degree to which the bloc has been, or can be, effectively integrated into a single economic unit and the flexibility with which it can respond to changing circumstances, such as a Western embargo. Flexibility of adjustment may be hampered by institutional obstacles and rigidities and, to some extent, by transportation bottlenecks. The limitations in terms of general economic resources are covered throughout this report.

A fairly high degree of integration of the Soviet bloc (though not yet with the newcomer, Communist China) has already been achieved. Despite the fact that the economies of the Soviet Union and its Eastern European satellites are more marked by similarities than by complementarity—i.e., that their commodity surpluses and deficits tend to cumulate rather than to offset each other—the Soviet Union and its European orbit have achieved a fairly high level of interchange of goods. The turnover of commercial trade between the Soviet Union on the one side and Poland, Czechoslovakia, Hungary, Rumania, and Bulgaria on the other rose to approximately the equivalent of one and one-quarter billion dollars by 1949. The prewar volume of this trade was negligible. Trade among the satellite countries mentioned above was about $100 million in 1938 and reached almost $400 million in 1949 (current prices in both cases). In addition, Eastern Germany is rapidly becoming a full-fledged trading member of the Soviet bloc. Outer Mongolia has been an active trading partner of the USSR for some 25 years now, and the USSR is apparently obtaining the chief [Page 1041]exportable surpluses of Manchuria. Finally, reparations out of current production (chiefly from Eastern Germany, but also from Rumania and Hungary) and similar noncommercial receipts add to the commodity flow to the Soviet Union. As a result, a fairly high degree of redistribution of commodity “surpluses”—chiefly petroleum, coal, iron ore, certain non-ferrous metals, raw cotton, textiles, and industrial equipment—has been achieved. The far-reaching current economic plans of the satellites suggest that to some extent they are to share in the limited supplies of industrial equipment available within the bloc.

This redistribution of supplies within the bloc, resting ultimately on the effective political control of the whole area by the Soviet Union, seems to be the primary function of the so-called Council for Economic Mutual Assistance (CEMA).* In particular, CEMA appears to coordinate national economic plans, the interchange of surpluses within the bloc, and—by means of a reported Committee for Trade with Capitalist Countries within the CEMA—the sale and purchase of supplies in the West as well. Other coordinating machinery may also exist.

On the other hand, the presence of substantial institutional weaknesses and rigidities within the Soviet bloc must be emphasized. These include:

(1)
The presence of about a dozen national units (not counting the constituent republics of the USSR), each with its own government, bureaucracy, and party structure.
(2)
The rigidities inherent in the Soviet planned system (now adopted by the satellites), with its inflexible plans for each enterprise, with minute and constraining prescriptions for economic behavior, and with its top-heavy centralized planning and inspection structures.
(3)
The presence of a perpetual “sellers’ market”, encouraging hoarding of supplies and diminishing managerial energies.
(4)
General discouragement of individual initiative and of willingness to accept individual responsibility, which is inherent in the Soviet system of rewards and punishments.
(5)
Disaffection from Soviet domination in the satellite countries.

It is believed that these weaknesses and rigidities may appreciably offset the organizational gains made by the Soviet bloc, such as the creation of the CEMA, and the advantage enjoyed by a totalitarian system in speed of adjustment to changing circumstances.

[Here follow the remaining six sections of the report, totalling over seventy pages, which deal with deficit commodities, surplus commodities, technical aid, transportation, money and finance, and the Soviet sphere of influence in the Far East.]

[Page 1042]
[Appendix B]

Report Prepared by the Economic Cooperation Administration

secret

Trade of the Free World With the Soviet Bloc

summary conclusions

In general terms the following are the major conclusions reached in the attached report on the European Soviet Bloc and China.

(1) Economic warfare cannot be a decisive weapon in dealing either with the Soviet Bloc in Europe or with China. Controls can be made more effective than they are today. There is no way to prevent trade with the Soviet Bloc from contributing to the military potential of the area short of an all-out economic warfare.

(2) Assuming that we (or the Soviets) do not decide to initiate all-out economic war, there are two alternative courses of action open to us. We might attempt to deny to the Soviet Bloc shipment of all machinery, other capital equipment and essential selected raw materials from any part of the free world. This would force retaliation by the Soviet Bloc and would quickly wind up in all-out economic war. Alternatively we might continue a policy of selective controls on items of critical importance to the Soviet Bloc with some additions to the present selective control lists.

(3) There would be much to be said in favor of the first alternative on the hypothesis of an inevitable military war with the USSR beginning within the next year. Even under these conditions our program should be selective in order to reduce the political cost to the US of exerting pressure on friendly countries which would find the cost of such a policy very great.

(4) In the longer range perspective, however, the second alternative of carefully selected controls would be preferable in striking at the serious vulnerabilities of the Soviet Bloc. What the Soviet Bloc needs from the free world more than anything else is imports of items having a high skilled labor content. A policy of selective controls should therefore place progressively greater emphasis on this type of item.

(5) This policy should be expanded from the present foundation of multilaterally agreed lists. As a first step greater attention should be placed on plugging the leaks in present controls rather than on expanding the selective lists. The Soviet Bloc needs for imports are so great that the Bloc would have no economic incentive to take strong retaliatory measures.

(6) If the decision is made to increase controls on raw materials shipments to the Soviet Bloc, we should look more and more towards agreements for international allocation, which could have the effect [Page 1043]of preventing stockpiling by the Soviet Bloc. For both political and economic reasons, international allocation is likely to limit supplies more effectively than the International List technique.

(7) As occasion warrants, these selective commodity controls could be supported by preclusive buying, shipping controls and other necessary steps.

(8) The cost of the less aggressive, selective program would not be great although we would have to be prepared to back up friendly nations with assurances of our support if they adhered to our policies in trade bargaining with the Soviets. Since the policy would be selective, we should keep down the political cost of a control policy to the US by developing controls that would have minimum cost. On the other hand, the direct and immediate financial cost to our friends of the first, more far-reaching alternative might come to $500 million per year but that would not be all. There would be major political and other costs together with the probability that, once we embarked on the more far-reaching alternative, there would be no turning back short of military war.

(9) It should also be noted that the political problems as well as economic policies raised by economic warfare are currently insignificant for the US. They are grave for countries exposed to direct aggression such as Denmark and Norway; for countries which would have to change their entire political philosophy such as Sweden and Switzerland; and for countries with acute internal political problems such as India, Pakistan and Indonesia.

(10) There is no hard and fast line between the alternative types of control suggested. Almost any step we take means disadvantages as well as advantages to the free world. How to strike the balance in estimating the pluses and minuses of any policy is never easy, particularly since military, political and economic judgments that must be balanced will have to be derived by using standards of measurement that are appropriate in each field but for which no table of conversion factors exists.

(11) Even the more moderate program would involve some distortion in commodity trades and, for certain countries, serious general trade distortions. If we ask the nations of Western Europe to accept these distortions, they will not be satisfied with general expressions of financial support. They will undoubtedly raise such specific questions as the priority, if any, of their claim on the coal we offer them in the event of a US coal strike or a shipping shortage. We cannot expect other nations to enter into a program of serious disruption to their normal trading pattern without submitting our own internal commodity policies to some measure of foreign examination.

[Page 1044]

(12) At the same time we should be careful not to assume the full responsibility for the cost of necessary trade realignments. We should make it clear to friendly nations that there is little long-range future in trade with the Soviet Bloc. All the available evidence supports the conclusion that Russia is striving for self-sufficiency and integration with the other members of the Bloc—not for expanding East-West trade.

(13) The proposal of a far-reaching extension of controls would mean complex negotiations in an effort to realign certain trading patterns. The State Department must consider the priority to be given to negotiations on rearmament and on an extension of controls.

(14) Because of the nature of China and the advance state of military activities in that area, our program of economic warfare should be more extensive than in Europe. Even here our program should be for the most part selective, but we should be less reluctant to take necessary all-out measures. An important objective would be the attainment of multilateral agreement among the Western Nations on a complete quarantine of China from the technology of the West.

(15)Because of the greater wealth of the free world, its advanced technology and its generally greater economic flexibility, we can observe as a general rule that a battle of trade sanctions between the two worlds is more likely to react in our favor than in the favor of the Communists. Our greatest vulnerability is the potential frictions that may be caused by disagreements as to appropriate control policies among the sovereign free nations of the world, no two of whom find the cost of a control program the same. In particular the existence of East Germany as an effective part of the Soviet Bloc but as an integral part of “Germany” in the minds of West Germans poses a major problem.

The vulnerability of the Soviet world is more complex. In a limited way, it is a financial shortage, although this element is not of major importance. Of greater importance is a critical materials shortage, for the Soviet Bloc is short of many critical commodities which are urgently needed in its capital expansion program, in its military program and in its civilian program. Most important of all, the real vulnerability of the Soviet Bloc is its shortage of skilled labor and management needed for the mass-production of war materials or the rapid production of specialized precision equipment. In China this vulnerability reflects itself in a small critical modern sector of the Chinese economy which can only be maintained through a sustained import of all kinds of machinery and capital equipment. In the Soviet Union there is also a general shortage of capital equipment, but the real problem is concerned with specific and identifiable machinery shortages.

[Page 1045]

[Here follow a section explaining the structure of the report, a section summarizing Part I of the report concerning the “Soviet Bloc in Europe,” and a section summarizing Part II concerning “China.” Neither Part I nor II, which total over 100 pages, is printed here; Part II, however, is printed in volume VII.

  1. Copies were also sent to the Secretary of the Treasury, Secretary of the Interior, Secretary of Agriculture, Secretary of Commerce, Director of Defense Mobilization, Administrator for Economic Cooperation, and the Director of the Bureau of the Budget.
  2. Ante, p. 1023.
  3. Enclosure 2 to NSC 104, February 12, p. 1025.
  4. The source text, along with a cover sheet and table of contents, was circulated as OIR Report No. 5447R. On the cover sheet it was stated that “this is an intelligence report; nothing in it is to be construed as a statement of US or Department policy or as a recommendation of any given policy.”
  5. China is the only major member of the Soviet bloc not belonging to the CEMA. [Footnote in the source text.]