Economy and Trade
After Russia, the Ukrainian Republic was the most important economic component of the former Soviet Union. It generated more than one-fourth of Soviet agricultural output, and its diversified heavy industry included a strong ferrous metals capability. Today, steel is the country’s greatest export.
After independence in December 1991, the Ukrainian government liberalized most prices, and erected a legal framework for privatization, but widespread resistance within the government and the legislature stalled reform efforts. The loose monetary policies of the period also pushed up inflation. Prices stabilized only after the introduction of a new currency, the hryvnia, in 1996.
Ukraine’s dependence on Russia for energy supplies has made the Ukrainian economy vulnerable to external shocks. Further reforms are needed, including fighting corruption, developing capital markets, and improving the legislative framework. Ukraine reached an agreement with the IMF for a US$16.5 billion standby arrangement in November 2008 to deal with an economic crisis. However, political instability in Ukraine, as well as deteriorating external conditions, are likely to hamper efforts for economic recovery.
Economic Policy over 12 Months
The global financial crisis has exposed Ukraine’s inherent macroeconomic risks. While sovereign and corporate bond spreads were already widening in the first half of 2008, due to high inflation and a widening current account deficit, the international financial crisis brought existing refinancing risks, and risks associated with the banking sector to the fore. Moreover, the slowing global economy led to a sharp fall in both the price of, and the demand for steel, Ukraine’s main export.
In November 2008, Ukraine received approval for a two-year IMF loan intended to help support its banking system, and cover the country’s widening current account gap. Under the terms of its agreement with the IMF, Ukraine is expected to have a balanced budget in 2009. The terms of the IMF bailout package further require Ukraine to move toward a flexible exchange rate, and limit the reduction of foreign reserves. Ukraine received the first installment of US$4.5 billion in November 2008, although the second tranche, due in February 2009, has been delayed until the IMF receives confirmation that the government has agreed a non-inflationary source of financing for its state deficit.
At the beginning of the economic crisis, Ukraine had comparatively little state debt. However, the cost of bailouts and measures to fight the recession have caused public debt to surge upwards. Total state debt increased by 37% in December 2008 to US$24.1 billion, from US$17.6 billion in December 2007, according to data from the Ukraine Finance Ministry. The government initially targeted a budget deficit of UAH18.8 billion (US$2.34 billion), or about 2% of GDP, in 2008. It later cut the gap to below 1% of GDP, in accordance with the terms of the IMF bailout. However, as a result of US$7.5 billion spent by the Ukraine central bank supporting the hryvnia in October and November 2008, foreign reserves have fallen significantly, jeopardizing the IMF standby arrangement.
Ukraine’s governance has long been stymied by conflict between the opposing forces of Prime Minister Timoshenko and President Yushchenko. Timoshenko’s response to the economic crisis has been to depreciate the currency, and try to increase government expenditure, leading to an anticipated budget deficit of 2.96% of GDP in 2009, well above the 1% level agreed with the IMF. Timoshenko has sought to correct the trade deficit by imposing an administrative tax on imports. Yushchenko has opposed all of these moves, on the grounds that they may jeopardize further tranches of the IMF loan.
In February 2009, ratings agencies S&P’s and Fitch downgraded the country’s rating because of political instability. By March 2009, investors were also concerned that the country might default on its debt obligations, undermining confidence in the Eastern European region.
Economic Performance over 12 Months
Ukraine’s economy was buoyant, despite the political conflict between the prime minister and president, until mid-2008. Real GDP growth reached roughly 7% in 2006–2007, fueled by high global prices for steel, and strong domestic consumption, spurred by rising pensions and wages. A fall in steel prices and Ukraine’s exposure to the global financial crisis due to aggressive foreign borrowing lowered growth in 2008, and the economy is expected to contract in 2009. A decline in industrial output, the beginning of widespread layoffs, a steep devaluation of the hryvnia, and loss of confidence in the banking system is only a partial list of the symptoms of Ukraine’s crisis. According to the National Bank of Ukraine, the country’s GDP declined at an annual rate of 20% in January 2009. The leakage of deposits from the banking system amounted to 14% over October–November 2008.
Ukraine’s total state debt in 2008 increased by 37% to US$24.1 billion, from US$17.6 billion in 2007. The country, which has around US$105 billion in corporate and state debt, has the fourth-highest credit risk worldwide, according to credit-default swap data. The cost of insuring Ukraine bonds against default went up more than thirteen-fold in 2008, to an astonishing 31% of the amount of debt protected. Aggressive lending by banks that borrowed heavily from abroad has contributed to Ukraine’s ballooning private-sector external debt. Official figures indicate that only some 2.5% of loans are currently problematic, but this situation is set to worsen considerably as the currency falls and the economy contracts.
Ukraine’s stocks have also been falling, with the benchmark PFTS index down 74% in 2008. The hyrvnia has also declined significantly, losing 50% against the US dollar between June and December 2008. It is expected to drop further in 2009, given market sentiment that the IMF package effectively limits central bank intervention to halt the slide. And, as the currency slides, so too does the ability of the average Ukrainian to pay his or her debts.
Tensions with Russia also escalated towards the end of 2008, fueled by the conflict-ridden negotiations over Ukraine’s gas debt. In January 2009, Russia temporarily cut off gas supplies to the country over the alleged non-payment of a bill, and tensions rose again in March 2009. A wave of import restriction measures by Russia, the European Union, and the United States (on steel particularly) is likely to hamper exports, which account for roughly 60% of Ukraine’s GDP growth.
In February 2009, the IMF projected that Ukraine’s economy would shrink by 6% in 2009.
Support for Inward Investment and Imports
InvestUkraine is an independent, non-profit investment agency of Ukraine, acting as a liaison between the government and prospective and current investors. Investment is actively welcomed, especially in agricultural sectors, and in the promotion of research and development. More information is available on its website.
Companies involved in agricultural activities are exempt from corporation tax, those with foreign investment (Enterprises with Foreign Investments) are subject to a five-year tax holiday following a qualified foreign investment above US$50,000 in kind, or US$500,000 in cash, such that such contribution is at least 20% of the enterprise’s total charter.
GDP growth: 2.1% (2008, State Statistics Committee)
GDP per capita: US$6,900 (2008 est.)
CPI: 25% (2008, est.)
Key interest rate: 12% (March 2009, National Bank of Ukraine)
Exchange rate versus dollar: hryvnia per US dollar—4.9523 (2008, est.)
Unemployment: 3% officially registered; large number of unregistered or underemployed workers (2008, est.)
FDI: US$44.08 billion (2008, est.)
Current account deficit/surplus: −US$14.22 billion (2008, est.)
Population: 45,994,288 (July 2008, est.)
Source: CIA Factbook except where stated