Ukraine amends budget to win IMF approval for release of bailout funds

By bne IntelliNews March 3, 2015

Graham Stack in Kyiv -


Ukraine's parliament has voted through a package of budget amendments required by the International Monetary Fund (IMF) before Kyiv can receive a $17.5bn bailout.

"Passing this package of laws and accepting the decisions of the International Monetary Fund will enable us not just to get loans we need to pay foreign debt and replenish our foreign currency and gold reserves. It will also unblock $3.5bn in loans for direct investment in Ukraine's economy [from the World Bank and European Investment Bank]” Prime Minister Arseny Yatsenyuk told parliament.

The IMF has agreed a $17.5bn Extended Funding Facility for Ukraine, of which up to $10bn could be disbursed as a first tranche, enabling Ukraine to continue servicing foreign debt. Ukraine's hard currency reserves have fallen to around $6bn, providing only three weeks import cover.

Underlining how urgently Ukraine requires the funds, Ukraine's National Bank announced in the run-up to the voting that the national debt has reached 71.5% of GDP, up from 40.3% one year ago. This entitles Russia to demand early repayment of a two-year $3bn Ukrainian sovereign eurobond Moscow bought up in December 2013, as part of a bailout package referred to by critics as a 'bailbond'.

Ukraine is preparing for talks with foreign bondholders on restructuring, but Russia has already said that it wants full repayment. Moscow has sent out conflicting signals on whether it will demand early repayment.

Ukraine's unicameral parliament was draped in patriotic banners during the vote, reminders that the hunger strike of Ukrainian volunteer fighter Nadiya Savchenko, imprisoned in Moscow, had reached 80 days. The Rada also held a minute of silence for Boris Nemtsov, the Russian opposition figure shot dead in Moscow on February 27.

Adding to the tension, in the run-up to the vote, the populist Radical party, a member of the governing coalition, said it would not support the package of laws unless NBU head Valeriya Gontareva resigned. Radical Party leader Oleh Lyashko blamed Gontareva for the ongoing meltdown in the value of the hryvnia, down 40% since the start of the year. Lyashko later dropped the demand.

The package of laws significantly altered the budget, which had been originally passed controversially at 4am after a night session of the Rada at the end of 2014.

Ukraine's ongoing economic collapse meant that the IMF required changes to the budget's parameters: the inflation forecast was increased from 13.1% to 26%, the forecast drop in GDP in 2015 increased from 4.3% to 5.5%, and the predicted exchange rate increased from UAH17 to UAH21.7 to the dollar – although the current exchange rate is at UAH26.7 to the dollar.

Accelerating inflation and devaluation have helped the government reduce the budget deficit without the sort of politicially difficult budget cuts seen in Greece and Latvia: without indexation of state expenditure for inflation, inflation cuts nominal budget expenditure relative to revenues, and with major state revenues flowing in hard currency from exporters, devaluation boosts revenues relative to expenditure.

Thus on paper, the austerity budget incorporated an increase in budget revenues by 3.9%, thanks to the inflation and devaluation factors, and a 5.7% increase in expenditure, as reported by business daily Delo. “This means we are proposing to increase budget spending,” the finance ministry said in a release. The budget amendments also boosted royalties payable on natural resource extraction.

Ukraine's TV news largely covered the story as an increase in budget spending, reducing the political costs to the government.

Some controversial nominal cuts were nevertheless required – in particular, a 15% cut in the pensions paid to Ukraine's nearly 3mn so-called working pensioners: pensioners who continue working after starting to draw their pension, often motivated by the small size of the pensions.

Only at the fifth attempt, late in the evening - after the prime time news - was the budget amendment on pensions passed. “Parliament has passed its test of responsibility,” Rada speaker Volodymyr Hroisman declared. 238 MPs voted in favour, with a majority of 226 needed to pass the bill.

The other potentially painful measure was a decision to increase tariffs for gas and electricity charged to households towards market levels many times higher than current subsidised tariffs. The budget amendments included UAH12.5bn in targeted support for the poorest households to cushion the effects of the utilities price hike.

Despite these measures, analysts criticised the budget as based on unrealistic expectations of budget revenue growth. “More hryvnia printing with extra pressure on the exchange rate looks inevitable over the upcoming months,” wrote Concorde Capital analyst Oleksandr Paraschiy in a research note. “Still, IMF support with extra [international financial institution] funding might prevent further hryvnia decline if the funds are large enough and cooperation with IFIs goes smoothly,” he added.

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