IMF Approves $15.1 Billion Loan for Ukraine
By Stéphane Roudet
August 11, 2010
- New program aims to address fiscal and financial vulnerabilities
- Social assistance programs for the poor to accompany reforms
- Policies aim to boost Ukraine’s resiliency, long-term growth prospects
The IMF’s Executive Board has approved a $15.1 billion loan for Ukraine to put the country on the path to fiscal sustainability, reform the gas sector, and shore up the country’s banking system, the institution announced on August 6.
The approval of the 29-month Stand-By Arrangement triggered an immediate disbursement of $1.89 billion to the country. Subsequent disbursements will be subject to quarterly reviews.
“The authorities are committed to addressing existing imbalances and putting the economy on a path of durable growth through important fiscal, energy, and financial sector reforms,” said IMF First Deputy Managing Director John Lipsky in a statement following the Board decision. “Sustained implementation of these reforms will help Ukraine entrench macroeconomic stability, boost confidence, facilitate access to capital markets, and emerge with more balanced and robust growth.”
Putting reform back on track
The global economic crisis hit Ukraine hard in late 2008 and 2009. A major steel exporter and borrower on the international markets, Ukraine was severely hit by the decline in demand for steel products and reduced access to capital markets—the impact of which was magnified by pre-existing economic and financial vulnerabilities. Confidence in the currency and the banks waned, causing a system-wide run on deposits. As a result, real GDP collapsed, domestic demand plummeted, and falling fiscal revenues strained public finances.
The authorities’ program, supported by a $16.4 billion loan from the IMF in late 2008, managed to restore macroeconomic and financial stability. A sharp adjustment was to an extent unavoidable given the large pre-existing imbalances. However, measures to restore banking system confidence helped stabilize deposits and exchange rate pressures eased over time. By mid-2009, an incipient recovery was under way. The program went off track in late 2009, however, and a number of structural weaknesses are still outstanding.
The new program seeks to build on progress achieved under the previous one. The government that took office in March has formulated a medium-term plan of economic reforms to tackle these weaknesses and promote strong and durable growth.
Working toward fiscal sustainability
Ukraine’s public debt has increased considerably in recent years, and large budget deficits—partly caused by a worse-than-expected downturn—divert important resources away from the private sector. While some measures were taken to strengthen public finances in the first half of 2009, additional needed measures were postponed in the run-up to the elections.
The new program aims at continuing the fiscal adjustment. At the core of the authorities’ economic program is a comprehensive consolidation strategy to safeguard fiscal sustainability. This strategy aims to
• lead to a deficit that can be fully financed by markets by 2011; and
• set the public and publicly guaranteed debt-to-GDP ratio firmly on a downward path, with the objective of stabilizing it below 35 percent by 2015.
The fiscal adjustment will be reinforced in 2010 and deepen in 2011–12, backed by robust structural reforms of the pension system, public administration, and the tax system. These reforms will support efforts to broaden the tax base and curtail current spending so that the general government deficit targets of 3.5 percent of GDP in 2011 and 2.5 percent in 2012 can be achieved. At the same time, the authorities will seek to free up resources for more spending on essential infrastructure. Another aim is to reduce the government’s role in the economy over time.
Reforming the energy sector
Continuing to modernize the gas sector and to restore the financial viability of the state-owned gas company, Naftogaz, are crucial to creating a viable and competitive sector that does not drain scarce budgetary resources. Starting in 2011, Naftogaz's deficit will be eliminated, including through gas tariff increases and a price mechanism that depoliticizes price setting of public utilities. In the coming months, broader reforms aiming to improve infrastructure and energy efficiency will follow, with support from other multilateral institutions.
The program also promotes better use of targeted social assistance programs to limit the impact of gas price increases on the most vulnerable segments of the population. The government is increasing transfers—to about 5 percent of households—using established support programs and has set up a working group to improve the targeting of social programs.
Strengthening the financial system
Restoring and safeguarding banks’ soundness and strengthening financial sector supervision are of utmost importance to building strong banks that can support healthy credit growth to the private sector and sustain the economic recovery. To this end, steps are taken to rehabilitate the financial system, including to complete bank recapitalization by end-2011. Several legislative initiatives are under way to improve the framework of financial system oversight and bank resolution.
"The planned recapitalization of banks and steps to strengthen the supervisory and institutional framework are essential to restore financial stability, tackle the mounting problem of impaired assets, and eliminate impediments for robust economic recovery,” Lipsky said.
The program also aims at developing a more robust monetary policy framework geared to reducing the still-high inflation under a flexible exchange rate regime. The recently approved amendments to the National Bank of Ukraine’s law are an important step in this direction and toward enhancing its independence and accountability.
Ukraine faces considerable financing needs in the coming years, mainly from maturing external liabilities, its still-reduced access to financing on the international capital markets, and the need to continue to further strengthen the central bank’s reserves. To ease these needs and facilitate the policy adjustment, the new loan entails exceptional access to IMF resources—amounting to 728.9 percent of Ukraine’s quota in the Fund.
The program’s success crucially depends on strong political resolve to implement the planned policies and reforms. A robust policy framework would help coalesce support from the official sector and markets, boost long-term growth prospects, and ensure that Ukraine's economy will be more resilient to future shocks.