Global slowdown erodes government tax revenues

| Kyiv Post
“Our base case view also assumes that NBU reserves will decline to $25 billion [covering 3 months of imports] by end-2012 on foreign currency market intervention and repayments to the IMF, and drop further to $23 billion (2.6 months) in 2013,” Olena Bilan , Chief Economist, Kyiv-based investment bank Dragon Capital wrote in a note to investors.

Tighter rules on currency trading for businesses and a 20 percent fall in state revenues in July both point to an increasingly shaky state of Ukraine’s finances. Aggressive tax collection has also weighed heavy on businesses’ coffers, experts say, which are already suffering from the increasingly gloomy global economic situation.

In mid-August, the National Bank of Ukraine announced tighter rules for companies engaged in international trade, forcing them to use a single bank to settle the foreign currency denominated payments. It will also require proof of sales in Ukraine from companies buying foreign denominations to purchase products abroad for re-sale at home. Experts note this will dampen demand for foreign coin in Ukraine, and is the latest move aimed at protecting the state’s falling dollar reserves.

“Authorities are using every possible measure or tool at hand to construct tight safeguards against the pressure on the local currency that has plagued it nearly since last fall,” investment bank ICU wrote in a note to investors. “On the eve of the elections, credibility of the pegged FX regime is wearing thinner and thinner, and is in fact nearly worn out.”

Debate over possible hryvnia devaluation started almost a year ago, when the NBU’s foreign currency reserves began dropping from their August high of $38.2 billion, compared to $30.1 billion in July 2012.

A $2 billion Eurobond placement in July alleviated the pressure, albeit at a cost of 9.25 percent, the highest in 12 years. A $450 million loan from the World Bank, that ministry of finance officials say is in the works, will no doubt help.

Nonetheless, interventions to stabilize the hryvnia doubled in July compared to June. As the Oct. 28 elections approach, authorities will likely contemplate more extreme measures to keep the hryvnia stable, experts say, among which is the introduction of mandatory currency sales by exporters to the NBU. Yet even this may not be enough.

“Our base case view also assumes that NBU reserves will decline to $25 billion [covering 3 months of imports] by end-2012 on foreign currency market intervention and repayments to the IMF, and drop further to $23 billion (2.6 months) in 2013,” Kyiv-based investment bank Dragon Capital wrote in a note to investors.

State revenues have also been hit. According to ICU, these fell 20.2 percent in July compared to June, and 20 percent compared to last year. At Hr 23.5 billion ($2.9 billion) July’s income was the second lowest this year, behind a traditionally lean January. It was also the first time monthly revenues dropped compared to last year, when authorities began to step up revenue collection.

The lower revenues can partially be attributed to a weaker external environment and seasonal corporate tax payments, said ICU research head Alexander Valchyshen. But excessive tax collection, which has depleted businesses resources also played a role, he added.

The situation has two sides, confirmed Oleksandr Zholud, senior economist at Kyiv-based think tank International Center for Policy Studies. Tax collectors have indeed been overzealous, he said, but a general slowdown of the economy is also making itself felt. The original government forecasts for 2012 saw consumer prices rise 7.9 percent, Zholud explained, but now we even have deflation, so the collection of nominal taxes is much lower.

“On top of that, aggressive tax collection like advance payments has limited the funds available to businesses,” Zholud summed it up.

The European Business Association, which gathers companies throughout Ukraine, has long been critical of the authorities’ attempts to boost state revenues. These include pressuring companies to buy state bonds, demanding taxes in advance and conducting an ungrounded amount of inspections looking for reasons to issue fines.

Nonetheless, Valchyshen believes the shortfall in revenue means the practice is unlikely to stop, with even more pressure on businesses to pay in advance, more fines and more inspections to find cases of tax avoidance.

“Going forward the government would like to correct this,” he said.

Meanwhile, beyond Ukraine’s borders, the storm clouds are once again gathering. Italy and Spain are looking closer and closer to Greek-bailout territory, while manufacturing, considered a top indicator of where the economy is going by experts, is taking a plunge. Eurozone unemployment is at its highest in the single currency’s history and most of the region’s economies are either in recession or just hovering above zero.

September is looming large as analysts forecast a brutal return from the summer holidays for Europe’s leaders. According to a recent study by the International Monetary Fund, a quarter of banking crises since 1970 erupted precisely in that month. It was in Sept. 2008 that a 40 percent devaluation of the hryvnia began – a crack in the dam which exploded into a crisis that cost the country 15 percent in gross domestic product.

A repeat of those drastic times is unlikely, experts agree. Despite a distinct slowdown, Ukraine will almost certainly see 2012 growth above 1 percent, which is more than can be said for most of Europe. But coming back from vacations will be tough indeed.