The week before last, Yakiv Smolii announced he was resigning his position as Governor of the National Bank of Ukraine (NBU), citing “political pressure.” Last Thursday, Parliament overwhelmingly “accepted” his resignation.  Why has this happened now?  What will we expect in the future, especially from a new Governor, whom Ukrainian president Volodymyr Zelenskiy said will be appointed this week?

Smolii joined NBU in 2014, as part of the team brought in by the previous Governor, Valeria Gontareva.  When Gontareva resigned as NBU Governor in 2017, after several threats made against her life over the policies she was pursuing of shutting down banks and targeting inflation instead of running the printing presses, Smolii succeeded her.

As Anders Aslund has pointed out, ”Under his (Smolii’s) leadership, Ukraine’s inflation has fallen to the current level of 1.7% a year, the lowest ever recorded in independent Ukraine. With a floating exchange rate, the hryvnia currency has now stabilized at close to UAH27 per dollar. Moreover, Ukraine’s international currency reserves have surged to $28bn from a low of $5bn in 2015.”  In addition the NBU Discount Rate has fallen to 6%, the lowest in Ukraine’s history as an independent Country, and improving conditions for increased extensions of credit to Ukrainian businesses.

Under Gontareva and her deputy, Kateryna Rozhkova, approximately 90 Ukrainian banks were shut down. In addition PrivatBank, co-owned by Igor Kolomoisky who also owns 1+1 TV Channel on, which Zelenskiy’s comedy show aired, was nationalized by the NBU.  

Equally important, under both Gontareva and Smolii NBU went from being not much more than an ATM for former President Yanukovich, in 2014, to one of the world’s most respected central banks in 2019 and 2020.  In 2018 I had the pleasure of arranging a visit to NBU by several people from the National Bank of Ethiopia, along with representatives from other Ethiopian Government agencies.  My counterpart at NBU said that mine was the first time a delegation from a foreign country had ever visited NBU, in order to learn from their success.  She added, ”usually we (NBU) are instructed to go to other countries and learn from them.”

Before becoming governor, Smolii was a successful banker.  As Aslund has also written, ”He (Smolii) was one of the founders of Bank Aval, which remains Ukraine’s best bank, and made a fortune selling to Raiffeisen. He subsequently moved to set up another bank, Prestige Group, which he also sold at a profit. Then, as a good patriot, he decided to serve his nation.”  In other words, financially speaking at least, Smolii can do without the headaches and potential physical harm that may have resulted from him continuing as governor of the NBU until the end of his term in 2025.

Why Now?

Beyond “political pressure,” there are likely several factors that contributed to Smolii’s resignation, perhaps including:

• Zelenskiy’s political party needs the money.  Local elections will take place in October, and Zelenskiy’s Party, Servant of the People (SOTP) is trailing.  Members of SOTP may be looking at a more compliant, less independent, NBU to print more hryvnia, as a means of financing the upcoming campaign.  
• Opposition to the IMF’s Program.  Many Ukrainian politicians were opposed to Ukraine agreeing to the new Standby Agreement with the IMF, including Kolomoisky and a number of Members of Parliament.  The likelihood of the IMF suspending further tranches under the latest standby loan agreement will not be much of a concern to them.
• Besides Kolomoisky, there are others whose banks were shut down by Gontareva.  While people focus on Kolomoisky as the person orchestrating the demonstrations in front of NBU and Smolii’s house, the torching of Gontareva’s house, etc., there are a number of other owners of banks shut down by Gontareva and her team, many of whom would like to get back at individuals at the NBU whom they hold responsible, including Smolii.  Kolomoisky could be telling the truth, when he says he’s not responsible; there is no lack of suspects.
• NBU’s increased regulatory powers.  NBU now has regulatory & supervisory authority over not only deposit-taking banking institutions, but also “Non-Bank Financial Institutions” (NBFI’s), including insurance companies.  Over the years, insurance companies have been a significant source of graft for Ukrainian businessmen, to the point where very few Ukrainian insurance companies have sufficient capital to pay claims.  Once the insurance company gets the license from what was then called the “Non-Bank Financial Regulator,” whose regulatory authority was limited to requiring quarterly reports and not much more, the owner typically withdraws the initial capital requirement, and then continues to earn premium income, with the knowledge that they’ll never have to pay a claim.  By stopping this practice, and requiring adequate capital with, which to pay claims, the NBU has shut off a significant source of graft, likely displeasing many owners of so-called insurance companies.  
• Desire to capture new flows of cash.  In Ukraine, corrupt officials and oligarchs are always looking at flows of cash, and how to benefit from those flows.  Currently, the largest flow of cash coming into Ukraine is not from exports of steel and wheat, as is the case historically. The largest flow now consists of remittances from Ukrainians living abroad, as much as $14bn annually by some estimates.  A recent Wall Street Journal article estimates that remittances now account for 11% of Ukraine’s GDP, second in the world in percentage terms only to Guatemala and ahead of the Philippines, which, in Dollar terms, is the largest recipient of remittances. In addition, this development has only taken place in the last several years.  In Ukraine, much of the remittances goes into residential real estate.

For Ukraine, the two largest sources of remittances are Poland and Russia.  Much of the remittances coming into Ukraine from these two countries are physically brought over the border by the individuals working abroad, but a significant amount comes through the banking system, primarily from those working in countries with no physical border with Ukraine.

Controlling Customs and the Border Police allow for the collection of bribes from those who are physically bringing money across the border, money that must be declared.  Controlling the Tax Service allows one to devise new tax regimes targeted at new real estate construction, etc., in order to capture more of the money.  And, of course, where there are new tax regimes there are new opportunities for demanding bribes.

What is Next?

• IMF Standby Agreement.  There likely won’t be any more tranches distributed to Ukraine, unless the new NBU Governor is acceptable to the IMF and its conditions are met.  It is important to remember what happened in 2010, when the IMF released a tranche from an old standby agreement to Ukraine, just after Yanukovych’s inauguration.  Even though Ukraine was about to win in the Stockholm Court of Arbitration, Ukraine dropped its defense of an ongoing lawsuit by Firtash, alleging that Ukraine “stole” $1bn worth of natural gas from his company.  Upon Ukraine dropping its defence against Firtash’s lawsuit, the Court ruled in favour of Firtash, and the NBU transferred $1bn to Firtash as settlement, the day after the IMF released the tranche.  I doubt the IMF has forgotten.
• Rozhkova and the rest of the Gontareva/Smolii Team.  Even without Smolii the NBU has a very “deep bench” of strong managers, headed by Kateryna Rozhkova.  I had the pleasure of meeting several of them, when I was escorting the Ethiopian delegation.  Personally, I’d love to see Rozhkova named as Smolii’s successor, as her appointment will be a strong indication that current NBU policies will be continued.  I hope I’m wrong, but I think it’s unlikely that Zelenskiy will appoint Rozhkova as Smolii’s successor
• Then who? The successor will likely be someone with a past senior role in previous governments, perhaps a former Minister of Finance or Economy who, on the surface, would seem to have the experience and integrity to be acceptable to the IMF and Western donors, while at the same time be compliant to the likely interests of Zelenskiy and his backers.  There are a number of potential candidates who fit this bill.  However, someone who is too compliant may well cause mass resignations at the upper levels of the NBU, starting with Rozhkova herself.

Soon after Smolii’s resignation, Zelenskiy said that he wants to maintain the independence of the NBU.  The eye of the needle that Zelenskiy must thread, in order to convince Western donors that an independent central bank is, in fact, Zelenskiy’s intent, is very narrow.

A “Soft Coup”

I hope I am wrong, but what we’ve seen in Ukraine since early March, including a wholesale change of government, removal of reformers from key government posts, with Smolii the former Governor of the National Bank of Ukraine being the latest example, is a “Soft Coup.”  The definition of a “soft coup” is a forcible change of government control but without the use of physical force.  

In the case of Ukraine, the coup plotters likely include selected oligarchs, Russian front men like chairman of the pro-Russia Ukrainian Choice Viktor Medvedchuk and head of the Opposition Bloc Yuriy Boyko (aka Boiko) who, together, control the second largest faction in the Parliament, returnees from exile in Russia of those formerly working for Yanukovych, as well as various Members of Parliament, backed up by the Ministry of Interior controlling the militia, the national police and the border police, with Zelenskiy serving as the convenient prop and, most likely cheered on by Firtash, now in Vienna fighting extradition to the United States.

The “soft coup” can only be successful if those who were on the leading edge of the Euromaidan reforms, and Ukrainian voters who voted for an outcome of last year’s Presidential elections that the antithesis of the objectives of the coup plotters, allow it to succeed.  I am still optimistic that the soft coup can be thwarted.

The effects of the “soft coup” may well include:

• Nullification of the result of the 2019 Presidential election, in the sense that voters were voting for the end of graft and corruption in Ukraine, which is completely the opposite of the objectives of the coup plotters.
• Ultimately, this will lead to the return of Ukraine to what I have called the “Old Rotten System.”
• A substantial increase in Russian leverage inside Ukraine, through increasingly frayed ties with Western donors, ownership of a substantial portion of Ukraine’s broadcast TV networks by the coup plotters, and the discrediting of the “Euromaidan Reformers.”
• Marginalization of those who are collectively referred to as “Euromaidan Reformers.”

I came to the conclusion that what we may now be observing in Ukraine is a “soft coup” based on several events since last March 4, including:

• A new Government, starting with the Prime Minister, on the alleged grounds that the former Government wasn’t moving fast enough on reforms, even though many in the former Government, like Timofiy Mylovanov former Minister of Economy, Trade and Agriculture, are proven reformers.
• Removal of the former Prosecutor General, Ruslan Riaboshapka, who had been moving toward making his office truly independent for the first time in the History of Ukraine, with Iryna Venedyktova, who has proceeded to file several criminal charges against former President Petro Poroshenko.
• Removal of the former Heads of Customs, Civil Service and Health, all proven reformers, where these individuals were shutting off major sources of graft.
• The resignation of Smolii, the Governor of the National Bank of Ukraine.

Taken together, these developments potentially increase the flow of graft in Ukraine, for the likely benefit of the coup plotters, a flow that has stanched by many of those who have been removed from their posts, and potentially neutralize those who have been pushing hard for reform.

The Euromaidan Reformers, represented in Parliament by the European Solidarity and Golos Parties, are made up of very able individuals, some of whom are very capable of running for President, and perhaps winning.  These people are active in Civil Society, in Parliament and in the media.  However, unless they become a political force in their own right, they will continue to be marginalized.

I have spoken with people who have dealt the Euromaidan Reformers over the years.  Their observation was that there was almost no cooperation but, instead, a lot of rivalries. Putting aside such rivalries is necessary for the development of a means to counter what seems to be taking place.  

It will also be necessary for Euromaidan Reformers to reach out to the many Ukrainian voters who likely feel that Zelenskiy’s campaign promises of reform were empty promises, and then convince them that, instead of Zelenskiy and SOTP they will serve their interests.  I am thinking of the voters in the building where my wife has an apartment, where last year they saw 300,000 hryvnia, earmarked for new elevators, vanish, only to be told that the money was used for “political activity,” but without any further explanation.

Ukrainians have been through similar challenges before, but this time they risk losing the opportunity to redeem what 73% of Ukrainian voters supported in the last Presidential election.  I remain optimistic, but the window to derail the “soft coup” is rapidly closing.  

Robert Homans is a financial sector expert who has lived and worked in Ukraine for over 15 years. You can follow him on Twitter at @rhomansjr