If Ukraine unravels, the EU will be lumped with the poor western half

By bne IntelliNews April 7, 2014

bne -

With pro-Russian protests in eastern Ukraine turning violent and fears growing of a Russian incursion on the pretext of "protecting" ethnic Russian civilians, attention is now turning to what the economy of this country would look like were those regions to split. The answer: not good.

A group of protestors who call themselves the Donetsk People's Council stormed regional government buildings in the eastern Ukrainian cities of Donetsk, Lugansk and Kharkov, and on April 7 declared plans to create the Republic of Donetsk and join Russia if people voted for that in a referendum due to take place no later than May 11.

The events echo those in the former Ukrainian region of Crimea, which held a sham referendum on March 16 that overwhelmingly voted for annexation by Russia after what were clearly Russian troops working with local volunteer groups had taken over all the administrative levers and defence bases on the Black Sea peninsula in the previous few weeks. 

"By taking over a regional authority building like in Donetsk [April 7], the protestors aim at facilitating regional council votes in favour of separatist referenda and outright secessionist declarations," says Otilia Dhand, vice president at Teneo Intelligence. "The Kiev government is walking a thin line between maintaining public order and appearing heavy handed, which could provide an excuse for Russian involvement."

Following Crimea, attention inevitably turned to the eastern Ukrainian regions, which have large ethnic Russian populations that the Kremlin would dearly like to see part of the Russian Federation.

There are sound economic reasons for Russia wanting this. An article in US magazine The American Interest examines the country’s economic geography and highlights "how hard it’s going to be for the West to make Ukraine work", given that with the exception of Kyiv, the richest (or the least poor) regions of Ukraine are all in the industrialised east. "Economically speaking western Ukraine is more like the Appalachia of Ukraine than its Silicon Valley," the article wryly notes.

With a per-capita income of $4,335, Kyiv is not even the richest region in Ukraine. It comes in fourth place after Dnepropetrovsk with $5,298, Donetsk with $4,500 and Poltava with $4,439. The east is home to Ukraine's oil and gas reserves as well as most of its heavy industry; the western half has a few nice towns and mountains.

Even these income levels in the east of the country are way below most of the rest of Central and Eastern Europe, including that of Russia. Russia's per-capita income is on the order of $17,000 and even Belarus' stands at $16,000, according to the CIA fact book. Ukraine is the only country in the Commonwealth of Independent States that has yet to regain the level of income it had in 1991.

The uneven distribution of wealth in the country is storing up problems. While it is the nationalist west that wants to rush into Europe's arms, this means doing a deal with the International Monetary Fund (IMF) which will come with strings attached and austerity in the offing. Ukraine is about to massively increase its debt levels and will have to raise taxes too to pay for that debt. But it will be the people in the east that will pick up most of the bill, which is bound to cause resentment and further divide the already divided population.

Teneo's Dhand also notes that in the meantime Russia will likely step up the pressure on Kyiv as it looks to at the very least create a more federalist state in Ukraine (with broad autonomy for the eastern half), by banning imports of some categories of Ukrainian goods and using its natural gas leverage. An unpaid Ukrainian gas bill of $2.2bn is due on April 7, she notes.

The American Interest notes the wealth-producing eastern regions are closely tied into the Russian economy with deep interconnections that stretch back to Soviet and even Czarist times. "It is difficult to see where the energy intensive manufacturers of the eastern region can get replacement supplies for Russian oil and gas anytime soon; it is at least equally difficult to see what other market their goods will find if Russia becomes unavailable to them," it says.

"If we add to these factors the entrenched criminality of the Ukrainian governing class, the close linkages between ill-gotten economic wealth and short sighted political power that have persistently characterized the country since independence from the Soviet Union, and a polarized polity riven with ethnic, linguistic, economic and cultural divides, we do not see a promising field for western action. There are reasons why, despite strong and continuing pressure from some of its eastern members, the European Union hasn’t moved with greater alacrity to bring Ukraine into its orbit and why the prospect of EU membership for Ukraine has always looked distant," the magazine notes.



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