People First: The latest in the watch on Ukrainian democracy
Ukrainian economy: tightrope walking or achieving the possible?The Ukrainian economy is the foundation through which the state meets the basic needs of society. However, since independence, economic performance has been little more than an indicator of the efficiency and popularity of the government in power. The current regime came to power promising economic reform, positioning themselves as economic technocrats: executive managers who knew how to build solid economy, society and nation. But the reality has proved to be exactly the opposite.
The primary performance indicators of the government’s economic policy have been the outside perspectives of Ukraine’s investment climate.Leszek Balcerowicz, famous for implementing the Polish economic transformation program, recently spoke at an annual investment conference organized by Dragon Capital, mentioning that poor policy and an extreme concentration of power leads to economic collapse faster than if the market is left to its own devices.The characteristics he described seem to be present in today’s Ukraine. Nearly 70 percent of foreign investors at the conference mentioned that the lack of respect for rule of law in Ukraine is the main obstacle to economic development and the reforms. Balcerowicz believes that real reform in Ukraine can only come after a reduction of energy dependency on Russia, the signing of the association agreement and free trade area with the European Union and a “shift in top-to-bottom policy."Economic measures at the beginning of 2012 indicate that the situation in Ukraine, though negative, is not yet critical.According to the National Bank of Ukraine, the gross external debt was reduced down to 76 percent of GDP in 2011 - accounting for $126.2 billion as of Jan. 1, 2011.At the same time, short-term debts (those with a remaining maturity of less than one year) recently reached $56.8 billion, which is 12.8 percent more than at the beginning of 2011. The NBU has reported that the amount of repayment due in 2012, in relation to other obligations, has reduced. The repayment by the state management and monetary authorities is $1.5 billion less than in 2011 whilst banks and real sectors’ repayments have reduced by $1.8 billion (down to $7.1 billion) and $1 billion (down to $9.9 billion), respectively.
Pension Fund deficit is another major economic problem in Ukraine. Vice Premier and Minister of Social Policy Sergiy Tigipko has reported that the Cabinet of Ministers approved a Pension Fund for 2012 with a deficit of Hr 9.7 billion ($1.2 billion). At the same time Vasyl Kravchuk, first deputy chairman of the Pension Fund, reported that the deficit was actually closer to Hr 30.1 billion ($3.76 billion) following the results of 2011.The government of Ukraine has also experienced increasing difficulties in raising external loans. Negotiations with the IMF over the renewal of credit have not brought any positive results.According to the World Bank, the current stand-by credit agreement between Ukraine and the IMF is under serious threat. In 2012 Ukraine is obliged to repay the IMF $3.72 billion. In order to be able to repay this obligation, as well as bond debts, the Ukrainian government wants to obtain a new credit of $10 billion ... again from the IMF.The government of Ukraine must also return $2 billion of a short-term loan to VTB Russian bank and $500 million to Gazprombank. Should the tension in the relations with Russia increase, Russia may well impose penal sanctions - citing the low consumption of gas in previous years - which might cost Ukraine around $8 billion. Troubling signs of internal threats to the stability of the economy are also on the rise: Prime Minister Mykola Azarov reports that out of a 20.5 million-strong working population, 6 million people work unofficially as only 14 million citizens pay pension tax.At the same time the governing authorities of Ukraine are holding the fort, assuring everyone that the economic situation is under control. Azarov believes that the country is safe from default and that there is no reason to worry about a national currency devaluation.The appointment of Petro Poroshenko as the minister of economic development and trade might be a step towards the stabilization of the Ukrainian economy; as former minister for foreign affairs, former secretary of the National Security and Defense Council and head of the Council of Ukraine’s National Bank, he is quite experienced in administration.
The newly appointed economic minister has already presented his Ukrainian economy rescue plan to the media. The plan involves the establishment of transparency in economic policy, freedom of business activity and efficient resource management.Ukrainian experts remain largely pessimistic about Ukraine’s economic perspectives. Viktor Suslov, former minister of finance, believes that the government is marching towards default by collecting further external debt, including through internal governmental bonds, and increasing it up to 14 percent. It is becoming more and more difficult to service these bonds.Worsening economic problems create not only internal but also external threats for Ukraine, such as creating opportunities for aggressive expansion into Ukrainian markets by foreign players and increasing the attractiveness of subordinate integration projects such as the Customs Union and Joint Economic Commission. The course of the governmental policy will depend largely on the results of negotiations with Russia, which are likely to follow the inauguration of the new Russian President Vladimir Putin in May this year.People First Comment: The one thing this government appears expert at is pulling the wool over everybody’s eyes. The senior executives go on television promising boundless electoral rewards to the people but nobody knows how their promises will be met and the same is true for the international financial community.
Take for example the debt-to-gross domestic product ratio. The regime quotes a Ukrainian GDP of $7,200 per person as if it is constituted in the same way as the GDP of Italy, France or Germany.
What they forget to mention is that 61 percent of the GDP of Ukraine is produced by the assets of the top 100 industrial conglomerates owned by a tiny elite and only 39 percent is attributable to the country as a whole.
These conglomerates are almost entirely dependent on world commodity prices thus their contribution to GDP is highly volatile. A debt to GDP ratio of 76 percent looks pretty good in relation to Greece or Italy, however, when you apply the debt volume to the real GDP rather than that inflated by the top 100, the figure rises to from 76 percent to 198.7 percent which is truly horrifying. The reality is somewhere in between and anything over 100 percent is a cause for concern given all the other political and economic factors.
Ukraine has massive debts of some $53 billion to either pay or restructure this year. In reputable countries such debts would be rolled over with new interest rates but this regime has done an excellent job in upsetting the IMF, the World Bank, the governments of the USA, UK, Germany, Poland, Russia and the EU. Thus there is little good will flowing in the direction of Kyiv. Similarly, money is tight the world over, the price of oil is falling so those with oil-based economies are getting nervous and to top it off Ukraine and this regime have such a poor international reputation at present that markets are unlikely to want to lend at acceptable rates of interest.
The seriousness of the situation is also reflected in what is happening in Ukraine. The tax authorities, using some highly questionable and spectacularly short term tactics, have been successful in raising the volume of taxes paid to the exchequer… but this has not generated enough.
The regime recently went cap in hand to the major oligarchs to request that they make a larger tax contribution, something completely unheard of in the past.
Most reprehensible however is that the tax police have been turned loose on all those companies that worked under contract for the regime in 2011. Tax inspectors have been told to find any excuse to ensure that funds, no matter how legitimately earned, are returned to the exchequer and the perpetrators fined. Desperation indeed… particularly when coupled with the maintenance of fuel surcharges, ultra high customs duties and one of the most repressive tax regimes in the world.
In view of this it would be reasonable to expect that the regime is amassing a financial stockpile to enable it to pay the nation’s debts but this is not reflected in the most recent figures issued by the National Bank where the cupboard is looking decidedly bare. It would also be reasonable to expect that with such an efficient tax collection system the regime would be able to deliver higher wages to state workers, improvements in schools and hospitals and better infrastructure but the very opposite is true. The hospital system is in terminal decline, the education system is so starved of funds that during the winter many schools closed due to lack of heating and the only infrastructural development appears designed to give Deputies a smoother ride to parliament from their lavish dachas.
The real GDP per person in Ukraine today, when the influence of the top 100 has been removed, has fallen from $3,600 at the time of independence in 1991 to around $2,800 today yet during the same period the country has ‘grown’ 21 billionaires and some 7,000 millionaires. Again, it would be reasonable to question where all this money was made if the real GDP and thus the productive output of the nation is actually falling. The president has recently admitted on national television that $7.5 billion was misappropriated from the state budget in 2011 and that despite a state investment of over $4.3 billion in Euro 2012, Ukraine is unlikely to receive anywhere near the projected $4.5 billion in revenue from the event, further adding to the nation’s financial woes.
The straws, however, that could easily break the camel’s back are the $2.5 billion debts owed to the Russian VTB and Gazprom Banks and the $8 billion arrears on gas contract penalties that are due to be repaid in June 2012. President elect Putin has a supervisory responsibility to VTB Bank and his feelings toward this regime are well documented. Similarly Gazprom is growing tired of the games the regime is playing over current gas tariffs thus it is very possible that Moscow will demand payment in full. If so the domino effect could easily instigate a run on the whole economy and a major default that would be catastrophic for the regime, the oligarchs and the nation.
Clearly all is not well both with the finances and the financial management of Ukraine and it is little wonder that some of the major banks and lenders in the City of London have put Ukraine on a watch list that reflects their concern. Politics and successful economic management rarely make comfortable bed fellows. In Ukraine, vested political interest and interference coupled with endemic corruption make sound economic management virtually impossible.
Viktor Tkachuk is chief executive officer of the People First Foundation, which seeks to strengthen Ukrainian democracy. The organization’s website is: www.peoplefirst.org.ua and the e-mail address is: [email protected]