The Grim Economic State of Ukraine Continues

Published on 22 Apr, 2016

Ukraine - Investment Research

Nothing much seems to have changed since the Maidan protests at Ukraine. Even the new regime hasn’t been able to stem the economic and political crises that had fueled the revolutions earlier. Tensions within the government and delay in implementing key reforms have held up the review of IMF’s US$40bn EFF program. Not only the funding has been postponed, IMF has even warned that substantial new effort is required to invigorate reforms for the rescue package to continue.

Ukraine recently marked the second anniversary of the Maidan protests (Feb 18-23, 2014). The day supposed to honor the victims of the revolution ironically turned into a platform that calls for a Third Maidan revolution.

The new government under Petro Poroshenko and Arseniy Yatsenyuk had promised to end corruption, curb the power of oligarchs, and deepen ties with Europe that would create new opportunities and new growth avenues for Ukrainians. However, two years after the Maidan revolution, Ukrainian nationalists were rallying at Kiev’s Independence Square, yet again asking for the government’s ouster.

Ukraine’s slow pace of reform has created much public frustration, and the country is falling fast in a political quagmire of its own creation. From the perspective of those who rallied at Maidan two years ago, the same politicians are enmeshed in an all-too-familiar proxy war, each lobbing accusations of corruption at the other.

The government under Prime Minister Arseniy Yatsenyuk is under immense pressure from all quarters to follow through on reforms and fight corruption. Tensions within the government and delay in implementing key reforms have held up the review of IMF’s US$40bn EFF (Extended Fund Facility) program.

Deepening Economic Crisis

After the formation of the new government, Ukraine agreed to a US$17.5bn bail-out package with IMF in Mar-15, which was supplemented by EU contributions, bringing the total package to US$40bn. The IMF package was spread over 4 years, of which US$5bn was to be issued immediately and a total of US$10bn was to be disbursed in 2015.

The bailout was contingent on Ukraine generating about US15.3bn of savings in public financing, which the Finance Ministry successfully achieved through debt restructurings. Debt restructuring negotiations over the controversial US$3bn that Ukraine owes Russia failed and Russia recently sued Ukraine in London High Court over its non-repayment. Interestingly, Russia considers the debt as sovereign in nature while Ukraine considers it commercial.

IMF has recognized the sovereign status of the US$3bn debt, and on December 15th moved to change its arrears-lending policy to be able to continue to fund Ukraine’s bail-out program, despite Ukraine defaulting on the Russian debt. Ukraine received US$6.7bn in 2015, and was expecting to receive two more tranches of about US$1.7bn.

However, the funding has been postponed and IMF has warned that substantial new effort is required to invigorate reforms for the rescue package to continue. Failure to pass the tax reforms and budget has held up US$2.7 bn in international financing for 2015, in addition to the IMF loan tranche.

Meanwhile, the Ukrainian economy witnessed GDP growth (+1.5%, seasonally adjusted) for the second consecutive quarter in 4Q15, a first in the last two years. Inflation slowed to 0.7% in Dec-15. vs. 2% in Nov-15.

However, the economy is still struggling with industrial activity in the east hampered by the conflict with Russia and UAH devaluation that left many corporates with unsustainable levels of debt. For the full year 2015, the GDP fell by 10.4% vs. a 17.2% decline in 2014. Annual CPI hit 43.3% in 2015 as compared to 24.9% in 2014.

In contrast, the GDP growth was flat with core CPI at 0.1% in 2013 before the crisis erupted. The National Bank of Ukraine expects the economy to grow marginally by 1.1% in 2016 with inflation at 12%.

Grim Outlook

The future for Ukraine looks grim. The eastern region of Donbas appears to be in state of frozen conflict with neither party moving forward on the conditions set out in the Minsk agreement. While Ukraine is dragging its feet over the decentralization of power and local elections in the region, Russian separatists have not handed over control of the border to the government.

Key factions of the coalition government, including those of PM Yatsenyuk and former PM Tymoshenko, have warned of an ultra-nationalist revolution if Ukraine complies with the autonomy conditions under the Minsk accord.

Meanwhile, the war continues to drain the state coffers. The paralysis in the Parliament, proliferation of right-wing movements, and limited funding make the present situation in Ukraine very volatile; kleptocracy remains entrenched and oligarchs continue to wield their power freely.

Two years and over 9000 deaths later, one does wonder, what did the Maidan revolution really achieve?