Ukraine and the IMF: New assumptions, old problems

Ukraine and the IMF have agreed upon a new program of financial assistance. The previous program ended in failure — the government in Kiev did not receive the full amount of assistance funds and the expected economic effects were not achieved.

This is already the eighth such program in the history of Ukraine. The Stand-By Arrangement will replace the current Extended Facility Fund, which implementation was in fact suspended in 2016, and is supposed to remain in force until the end of the next year. Kiev will receive a total amount of USD3.9bn.

The International Monetary Fund (IMF) expects that the new injection of financial support will allow the Ukrainian government to “focus, in particular, on continuing with fiscal consolidation and reducing inflation, as well as reforms to strengthen tax administration, the financial sector, and the energy sector”.

Experts predict that a half of the financial aid obtained from the IMF will go to the National Bank of Ukraine (NBU), increasing the foreign exchange reserves, and the other half will go directly to the state budget in order to reduce the level of debt.

Kiev’s agreement with the IMF was reached when the Ukrainian government decided to introduce another increase in the natural gas tariffs for individual consumers — this time the prices were hiked by as much as 23.5 per cent, which was one of the two conditions set by the IMF (the second condition was for the parliament to pass the budget for 2019 in the form submitted by the government).

The new natural gas rates are a ticking time bomb threatening to blow up the new cooperation program. A majority of Ukrainians will struggle with paying the increased gas prices. A wave of social protests against the price increases were spreading across the country. Former Prime Minister Yulia Tymoshenko, who is leading in the polls in the presidential elections, has already announced that she will immediately cut the gas rates by half if she wins the presidency. According to Ms. Tymoshenko, Ukraine’s own gas production would allow for that.

Slow pace of reforms

“The increase could have been avoided if the authorities had fulfilled the main demand of the IMF two years ago, which was to launch a genuine effort to curb the corruption ruining Ukraine’s state budget,” argues Ukrainian MP Leonid Yemets. “It was necessary to reform the judiciary and to take a series of actions in order to give lenders the certainty that money is no longer embezzled in the country,” he commented in an interview for the television station ZIK.

“Kiev has been implementing the previously announced reforms very slowly. There were more discussions about reforms than actual reforms being implemented,” assesses the economist Oleg Ustenko from the Blazer Foundation.

Ukrainian experts are skeptical when commenting whether the aid from the IMF positively affects the country’s economy. They point out that this financial assistance is not in any way linked to the foundations of the economy and does not translate into economic growth. The requirements that the IMF has thus far imposed on the Ukrainian government actually boil down to the introduction of mechanisms that guarantee the repayment of the loan.

As the chairman of the Committee of Economists of Ukraine Andriy Novak argues that the instruments required to ensure economic growth are quite different from IMF loans. They would include a stable exchange rate of the hryvnia, the activation of lending to the real sector of the economy, and a stable banking system.

According to the economist Alexey Kushch, Kiev has a general problem in its cooperation with the IMF. Out of the six previous cooperation programs only one was fully implemented — the first one, which provided assistance for reforms aimed at the transition from the Soviet economy to the free market economy. Under this program, Ukraine received USD780m in the years 1994-1995.

One important issue is the amount of macroeconomic support that Ukraine can count on. “The experience of two anti-crisis programs from 2008 and 2015 shows that funds made available to Ukraine are too small to allow the implementation of reforms and at the same time too large to be fully used for patching holes in the balance of payments. This explains, on the one hand, the ineffectiveness of all the previous programs, and on the other hand, why they were all only implemented in 50-64 per cent,” assesses Mr. Kushch.

In his opinion, Ukraine should increase its contribution to the IMF from the current level of USD2.3bn to USD5bn, which would give the right to apply for loans of up to USD40bn. Because the IMF allows for the payment of 75 per cent of the national contribution in the form of promissory notes denominated in the national currency, Ukraine would only have to spend about USD500-600m in cash in order to implement such a plan. It could then apply for a loan of USD40bn with an interest rate of 0.5 per cent annually. This should be the main objective of the authorities after the completion of the current Stand-By Arrangement.

New assistance program instead of cheap money and anti-corruption court

Public finances is one area in which the funds provided to Ukraine by the IMF are actually utilized. “If Ukraine made good use of these funds, it could completely abstain from borrowing on the commercial market,” says Hlib Vyshlinsky from the Kiev-based Center for Economic Strategy.

“After the restructuring of foreign debt at the beginning of 2015, Ukraine would be able to stop borrowing from private lenders. In March 2015, the IMF approved the four-year Extended Facility Fund program for Ukraine, reaching a total amount of USD17.5bn. Only half of that amount was disbursed. We’ve lost USD8bn of cheap financing with an interest rate of about 3 per cent. We also didn’t get a further EUR600m of funding with almost zero interest rates from the European Union. We have incurred these losses due to the government’s failure to implement the key agreements with the lenders in a timely manner,” states Mr. Vyshlinsky.

Deprived of the cheap financing from the IMF and forced to rescue the public finances, in the summer 2018, the Ukrainian government reached for funds from the issue of 9-year treasury bonds with an interest rate of 9-9.5 per cent. According to the economist, the huge costs that Ukraine incurred because of this are the result of the decision to block the creation of an anti-corruption court. The IMF demanded the establishment of such a court, seeing it as a guarantee that the loans granted to Ukraine would not be embezzled with impunity.

“And that was just a single issue of bonds. If we were to count all the losses resulting from our failure to obtain the cheap financing from the IMF and the international partners, then the costs would go into the billions of dollars,” said Hlib Vyshlinsky.

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