KYIV BLOG: A break in the clouds over Ukraine's future

By bne IntelliNews June 8, 2015

Ben Aris in Moscow -


It’s not exactly blue-sky news, but after a little over a year in office, Ukrainian President Petro Poroshenko had a few things to boast about in his recent annual speech before the Rada lower chamber of Parliament. Reforms have started and the first green shoots of economic recovery are now visible if you pick through the war wreckage that strews the national landscape.

The biggest change is that the hryvnia currency has stabilised and gross international reserves (GIR) have begun to rise again, albeit by very small amounts. GIR were up by 3% month-on-month in May, or by $287mn, to reach a total of $9.9bn at the end of the month, after a series of debt redemptions the government successfully met. That is the first rise in months since the country began to burn through its savings at the start of the Euromaidan protests a year and half ago when the National Bank of Ukraine (NBU) had some $34bn in its coffers under the regime of then-president Viktor Yanukovych.

The uptick in GIR was partly due to the issue of a US government-backed $1bn five-year Eurobond and the sale of a 3G mobile phone license. But more encouragingly, it also came from a sharp increase in the amount of taxes the state collected in April, surging by 46% month-on-month. Tax receipts have been rising since the start of the year and the budget had a surplus of UAH18.5bn ($880mn), of which UAH5.6bn was collected in April alone.

The biggest contributor to rising tax collection was also the easiest to collect: import duties were up a whopping 177.9% followed by excise tax (54.8%). These are crucial as Ukraine also needs to keep its level of imports down as paying for expensive Russian gas has meant the country has been running a large balance of payments deficit. But this too has fallen close to zero now the heating season is over. VAT was the other main contributor to the government's revenues, up 39.8%, less than the headline increase in the tax take.

If rising tax revenues are not enough proof that a semblance of normalcy is returning to Ukraine's economy, then the fact that its people are beginning to sell of their hoard of dollars is: the net sale of foreign currency by individuals remained positive in May ($177mn), according to the NBU, which was haemorrhaging billions of dollars a month to domestic exchange kiosks during the worst of the instability in the past two years.

But Ukraine is still not nearly out of the woods as $10bn only represents 2.1 months of import cover, according to Concorde Capital in Kyiv, which is less than the three months economists recommend to maintain the stability of the national currency. Moreover, the rising pace of tax receipts will slow going forward as part of the increase in revenues was due to the central government delaying payments to regional authorities. General budget outlays for the first four months of this year also increased by only 15.5%, although they are accelerating as the year wears on. Still, the management of the state's budget under the US-born Minister of Finance Natalie Jaresko appears to be well managed, arguably for the first time since Ukraine's independence in 1991.

"It's encouraging that government revenue is so healthy," says Alexander Paraschiy, head of research at Concorde Capital. “To a large extent, the April result was due to central bank support of UAH9.7bn and a payment from the 3G license sale of UAH2.7bn. Even [without] those payments, however, state collections jumped 24.9%, which is still impressive.”

Capital controls

Clearly the NBU is also feeling a little more comfortable as it slackened the extraordinary currency controls a little on June 3. The regulator issued a directive that went into effect immediately and doubled the limits on daily cash withdrawals from banks to UAH300,000, as well as easing restrictions on foreign currency purchases for legal entities that have their own foreign currency in Ukrainian accounts. In addition, the NBU also doubled the threshold of currency transfers abroad exempt from complicated verification procedures to $50,000 from $25,000.

While limited in scope, these relaxations of currency controls are significant. When the hryvnia went into meltdown last year, losing nearly three quarters of its value, the NBU slammed the door on moving dollars about in a desperate effort to preserve its rapidly dwindling GIR. Currency controls are always the last measure of desperation, so any loosening of the complicated and barely enforceable rules is a big step in the right direction.

Of course, there is still a long way to go until all the restrictions are removed. Still in place are rules banning early withdrawals of foreign currency savings deposits, a four-day waiting period for foreign currency purchases, and a mandatory surrender requirement that forces exporters to sell 75% of their foreign currency proceeds to the NBU. And the foreign exchange market remains very subdued, with daily trading volumes in the order of $250mn a day compared with the more than $1bn a day of currency that was traded before the political chaos began in 2014, according to Concorde Capital.

"The NBU’s move is symbolic and intended to signal optimism about the national currency’s prospects," Paraschiy said. “The Ukrainian currency has been strengthening since March due to improved external accounts and halted hryvna printing. Against this backdrop, tension at the market has eased somewhat and the NBU wants to strengthen the tendency by relaxing controls.”

Rumblings from below

Passing the nadir of recent collapse is welcome, but the sorry state of Ukraine’s economy still leaves Poroshenko with a huge political problem: none of these improvements are visible at street level. In fact, quite the opposite is true.

The International Monetary Fund (IMF) team just left Kyiv, where it had been checking the government's compliance with the fund's demands ahead of the release of the next $1.7bn tranche as part of a long-term facility. Team members were extremely upbeat as the government had done everything that it promised to do, including hiking domestic household energy tariffs. However, Ukrainians are less impressed after seeing their gas bills more than double in the space of a few months. Demonstrators have already appeared outside the Rada to call for a return to the lower subsidised rates. "No one has felt a significant improvement and we need it like we need air," Poroshenko told the Rada deputies in his annual parliamentary address on June 4.

The danger the new government faces is that if it fails to produce a material improvement in people's lives it may experience a pro-Russian backlash of some sort. As bne recently reported, three quarters of Ukrainians already say they are "not satisfied" with the government's performance.

The quality of life is already in decay in Ukraine. The IMF downgraded Ukraine's GDP forecast to 9% for 2015 on June 2, down from the previous 5.5%, and with inflation running at over 50%, life is getting harder for most people by the day. Poroshenko desperately needs to turn this situation around and he laid out a grand agenda in his speech. Happily, the president can already point to several successes, even if the benefits have not yet worked their way down to the street.

Dealing with the dirt

Poroshenko suggested that the state starts running a "corruption audit", where plain clothes officials offer bribes to bureaucrats in sting operations to curb the endemic graft. However, a new anti-corruption bureau has already been set up and its head, Artem Sytnyk, told bne that ending corruption was the "top priority".

A slew of initiatives has been proposed to deal with graft, including creating a witness protection programme and allowing plea-bargaining to encourage bribe-takers to testify against bribe-givers. Ukraine will also take a leaf out of the late Georgian reform guru Kakha Bendukidze's playbook and radically slash the number of regulations that are used as the basis for extracting bribes in the first place.

However, the next step of judicial reform will be much harder to implement. Poroshenko is proposing new rules to make judicial appointments more transparent, but shocked deputies during his address when he called on the Justice Council to "fire more than 300 judges".

State procurement is another area where corruption is rife and here the government can highlight several big wins already. Lithuanian-born Economics Minister Aivaras Abromavicius bested oligarch Ihor Kolomoisky, he told bne, describing how earlier this year he ended a scam to cream off a 15% discount off state sales of oil for more than a decade, worth hundreds of millions of dollars a year. And the state has been turning the screws across the board. “Kickbacks have decreased, many schemes were closed, transparency has increased, and social control has become more solid,” Poroshenko told the deputies, the Kyiv Post reported.

Another positive sign that there is real steel in Poroshenko's political backbone to carry through this reform was evidenced by the Rada's vote to pull immunity from prosecution from two deputies, Serhiy Kliuyev and Serhiy Melnychuk, in the run-up to the president’s speech. Prosecutors haven’t said what they are investigating, but Kliuyev is likely being probed for links to the murder of former MP Oleg Kalashnikov, who reportedly told relatives that Kliuyev was among those owing him large sums of money for organizing political rallies, according to prosecutors. Melnychuk’s alleged crimes are much smaller in scale, according to Concorde analyst Zenon Zawada, who has also criticised the government for its lack of progress in fighting graft in parliament. Both Poroshenko and Kyiv mayor and former boxing champion Vitaliy Klitschko have also been accused of shady real estate deals since taking office.

Poroshenko is not going to follow the lead of his friend and former Georgian president Mikheil Saakashvili's and sack the entire police force – but he will come close. Ukraine's new interior minister Eka Zguladze (a Georgian) will introduce a new traffic police force, the first parts of which will hit the streets by the end of this month and are bound to generate metres of column inches about Ukraine's attempt to "do a Georgia". The government is bound to hype the change too, as it will be the first visible implementation at street level of effective reform. The 'GAIshniki' (as traffic cops are known, taking from the acronym for state traffic inspectorate) are notoriously venal and nearly everyone at the wheel has been a victim of their greed.

Putin's footsteps

Poroshenko also re-iterated his campaign of de-oligarchisation, mentioning the word 11 times in his speech. The irony is that he is in exactly the same position as Russian President Vladimir Putin was in 2000. Under former president Boris Yeltsin the oligarchs were running the country and Putin himself is said to have been handpicked for the job by oil tycoon Roman Abramovich. Amongst his first acts was to rein in the oligarchs with some targeted attacks on Boris Berezovsky and Vladimir Gusinsky, both of whom controlled major Russian media assets. Poroshenko has already sacked his nemesis Kolomoisky from his job as governor and seemingly won a battle to oust him from the state oil company Ukranafta. (However, documents are now surfacing that purport to confirm Kolomoisky's right to appoint managers in the company, sanctioned by former prime minister Yulia Tymoshenko). Rinat Akhmetov, formerly Ukraine's richest man, has also seen his empire come under scrutiny. Poroshenko pointed out in his June 4 speech that 80% of Ukraine's power assets are held by Akhmetov's company, "but the Anti-Monopoly Commission doesn’t consider that to be a monopoly?" the president asked the assembled deputies.

“Private business should manage its own companies, but not graze in the state companies, nor feed on the budget flow,” Poroshenko said, paraphrasing Putin's offer to Russia's oligarchs at his now legendary oligarch meeting in 2001: You can keep what you have, but no more stealing. Poroshenko added that Ukraine’s current losses from “cartel agreements” range from 10% to 22% of GDP and two out of five goods are sold in monopolised markets.

Finally, the president promised to sell off 50 state-owned enterprises (SOE) from a total of about 1800. Only 200 of these are vital to the state and will not be sold. However, this is one promise that the president will struggle to fulfill. As Abromavicius told bne in a recent interview, the top half dozen of these firms are worth all the money, but as the president's own tribulations in selling off his Roshen chocolate factory show, there are few buyers of Ukrainian assets about while war rages in the east. After dithering for a year, Poroshenko announced on June 5 that he was transferring the chocolate factory to a Rothschild fund, which isn’t exactly a sale. Getting rid of the other SOEs will be even more difficult.

Notice: Undefined index: social in /var/www/html/application/views/scripts/index/article.phtml on line 259

Related Articles

Ukraine's largest PrivatBank faces down nationalisation fears

Graham Stack in Kyiv - Ukraine's largest lender PrivatBank has survived a stormy week of speculation over its future, but there are larger rocks ahead, with some market participants anticipating the ... more

bne:Chart - Russia begins to steady the ship according to latest Despair Index

Henry Kirby in London - Ukraine and Russia’s latest “Despair Index” scores suggest that the two struggling economies could finally be turning the corner, following nearly two years of steady ... more

Austria's Erste rides CEE recovery to swing to profit in Jan-Sep

bne IntelliNews - Erste Group Bank saw the continuing economic recovery across Central and Eastern Europe push its January-September financial results back into net profit of €764.2mn, the ... more