Business counts cost of Ukraine's isolation

By bne IntelliNews May 14, 2012

Sherelle Jacobs in Cologne -

"Economics, politics and personalities are often inseparable," an American businessman-turned-state-governor once said. Entanglements between these three forces have seemed even more pronounced than usual in the stand-off between the German and Ukrainian governments over the latter's treatment of its former prime minister Yulia Tymoshenko.

Germany has been at the forefront of formulating a strong European position against President Viktor Yanukovych's administration over Tymoshenko's imprisonment for seven years in October for abuse of office (she is accused of signing two gas deals with Russia, which left Ukraine with losses of $190m) and alleged beatings suffered in jail.

Berlin was the first major European power to announce its intention to boycott the Euro 2012 football championships (albeit so far only the German development minister) that are due to be co-hosted in Ukraine and Poland this summer. And German Foreign Minister Guido Westerwelle asserted that the EU Association Agreement, which has already been drawn up and is intended to bring the former soviet satellite one step closer to EU membership, will go no further until the matter is resolved. It is also a German doctor who has been treating Tymoshenko after she started a hunger strike and refused to be treated by Ukrainian physicians.

The German government's head-on approach has enraged its Ukrainian counterpart, which has duly sent economic-themed waves of warning westwards. In May, Leonid Kozhara, deputy head of Yanukovych's ruling Party of Regions, implied that Berlin's stance could have repercussions on its trade with Kyiv. "Without the [Association] Agreement, German access to the Ukrainian market will be limited," Kozhara told Spiegel Online, in reference to the stalled Association Agreement. "German producers would be the losers."

This raises an interesting point. Although the commercial consequences of a fall-out for Ukraine are clearly major, with Germany being the second-largest investor in the country, providing thousands of Ukrainians with jobs, the affair also begs the question: how much do German firms stand to lose from the souring in relations between the two sides?

Prices paid

There is certainly a sizeable contingency of German companies with an important stake in Ukraine. Its proximity makes doing business logistically easier. Cheap land and labour are also appealing points. And the Ukrainian market is appealing for investors, according to experts. "If you look at the market, it is roughly 45m people. By geography, it is the biggest country in Europe. It is also a whole country that needs reconstruction," says Florian Stache, a doctoral candidate at the Freie Universität in Berlin who formerly worked as a freelance business consultant in Ukraine.

The country's economic performance after 2000 was also a pulling factor. "Ukraine is a very interesting market. Its experience of very high growth before the crisis was noticed by German investors," says Robert Kirchner, a consultant at Berlin Economics, an economic consultancy firm.

Furthermore, a proportion of German companies have perhaps taken the leap into the Ukrainian market not just because it is lucrative as it stands, but also as part of a long-term strategy to be firmly established in the country by the time Ukraine becomes fully integrated into the EU. "The big push for German firms came in 2005, following the 'Orange Revolution'," says Kirchner. "That political change somehow brought Ukraine closer to Europe and this clearly had an impact on investment figures."

And there have been recent glimmers of progress when it comes to the "Europeanization" dream for Ukraine in the form of the EU Association Agreement, a key step in EU accession; it includes a framework for Ukraine's alignment with EU standards in democracy, law and human rights, as well as a free trade agreement. Legal and bureaucratic issues, as well as corruption, which remain big barriers to doing business in the country, would be greatly improved.

Crucially, many of the German firms that have so far expanded into the country have managed to generate impressive profits in a tough market. According to research by the German Chamber of Commerce in Ukraine, two-thirds of German businesses posted either good or very good sales improvements in 2011, and more than half expect the trend to continue. Nearly a third of German firms in the study said they had plans to take on more staff in 2012.

Therefore, it's understandable that worries are growing over whether the recent breakdown in EU-Ukraine relations could spoil the party.

Analysts warn that isolating Ukraine could push the country back into a closer embrace with Russia, reversing much of the "Europeanization" progress that some German firms have been banking on. Some further suggest that such a grim outlook, especially in terms of the Association Agreement, could have a huge impact on German companies already operating in the country. "The Agreement is key for future economic relations and if it cannot be concluded, then this will have a negative effect on business in the long term. Ukraine is now in limbo - everything is pretty much on hold." says Kirchner.

The current uncertainty could also put off a cautious group of potential German investors who have not yet set up business in Ukraine but are waiting in the wings for the business climate to improve. Many medium-sized companies, Germany's famed Mittelstand, which are especially vulnerable to the repercussions of a hasty business move, come under this category. "Those German companies that are not yet in the country and don't really know Ukraine could now hesitate," says Stache of Freie Universität.

Yet there are optimists who aren't convinced that events have reached a point where the confidence of many German firms active in Ukraine will be punctured. "We are sometimes over-evaluating the political factors. What does the Tymoshenko case mean to a firm exporting windows to Ukraine? Politics will only interfere with business there if real political instability occurs, like a civil war, which was very likely during times of the 'Orange Revolution'," says Stache.

In fact, argues Stache, firms that are not put off by political events could even be at an economic advantage: "It's simple: for those companies who dare, competition will be less."

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