## _cr08227 — Executive Summary and Selected Findings

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### Growth, inflation, and outlook
- Real GDP grew by 7½ percent last year.
- Staff projects growth to slow to 5½ percent in 2008; the authorities project somewhat stronger growth.
- CPI inflation rose to over 25 percent at end-March 2008; CPI inflation rose to over 30 percent by end-April 2008.
- Core inflation and nominal wage growth also rose and inflation expectations drifted up.
- Staff projects the current account deficit to widen to 7.1 percent of GDP in 2008.
- Short-term scenario risks identified:
  - Upside scenario: continued high inflation and high growth (e.g., increase in steel prices by 40 percent in 2008 in the upside scenario).
  - Downside scenario: significant reserve losses, contracting credit, and sharply declining real GDP growth (e.g., downside assumes steel prices +10 percent in 2008 then decline 15 percent in 2009 in one description; another excerpt lists downside as +10 in 2008 then −10 in 2009).

### Fiscal policy: findings, targets, and recommendations
- Findings:
  - Nominal public spending has risen by on average over 30 percent a year since 2003, driven by rapidly rising public-sector wages, social transfers, and partial restitution of Soviet-era deposits.
  - Fiscal policy has been procyclical; deficits moderate because inflationary revenue windfalls financed spending increases.
  - Public debt declined to just over 10 percent of GDP in recent years; public debt (percent of GDP) series: 30.6; 25.5; 18.7; 15.7; 12.5; 9.5; 8.4 (2003–09).
- Numerical/fiscal targets and staff guidance:
  - Staff advised holding the 2008 deficit to ½ percent of GDP; recommended general government deficit reduction of 1½ percent of GDP in 2008, bringing it to near balance.
  - Recommended fiscal restraint: cut the budget deficit by 1½ percent of GDP in 2008, to 0.5 percent of GDP, by restraining spending.
- Policy recommendations and specific guidance:
  - Contain spending; rein in growth in transfers; delay further restitution of lost savings until demand pressures eased.
  - Restrain increases in minimum wages and public sector wages to break a wage-price spiral.
  - Strengthen tax administration and broaden the tax base; retain the VAT and oppose replacing it with a retail-stage sales tax.
  - Save excess privatization receipts; spread restitution of lost savings over a number of years or offset by spending cuts.
  - Fully integrate quasi-fiscal subsidies into the budget and adopt a medium-term expenditure framework.
  - Gas prices should be fully passed through to final consumers, with vulnerable groups protected by better-targeted social programs.

### Monetary and exchange rate policy: tightening and transition to flexibility/IT
- Findings:
  - Monetary conditions tightened via increased sterilization and new reserve requirements on banks’ foreign borrowing; excess liquidity fell and interest rates rose, notably on the interbank market.
  - Real interest rates generally remain negative and credit growth remains very high—76 percent year-on-year in March.
  - De facto peg to the dollar (narrow Hrv/$ 5.00-5.06 band until mid-March) limited ability to combat inflation; since mid-March the exchange rate was allowed to appreciate outside that band.
- Recommendations and sequencing:
  - Increase exchange rate flexibility; progressively widen the exchange rate band during transition.
  - Use control of money and credit growth as an interim nominal anchor via monetary instruments.
  - Medium-term goal: replace the exchange rate as the nominal anchor with inflation targeting (IT).
  - Preparatory actions urged: provide a clear IT mandate, ensure NBU operational independence, abolish the foreign exchange transactions tax (FETT), securitize government liabilities to the NBU by mid-year, issue more public debt in hryvnia, liberalize domestic prices.
- Operational readiness and technical reforms:
  - NBU steps: Green Paper on options for mandate and independence; preparations for widening the band and introducing a mechanism to align the official rate (then Hrv/$5.05) with interbank rates.
  - Technical measures recommended: greater reliance on domestic-currency government debt issuance; early elimination of the foreign exchange transactions tax; strengthen analytical capacity and communications; publish inflation-report-type documents.

### Financial sector: vulnerabilities, supervisory measures, and contingency planning
- Key vulnerabilities identified (FSAP update):
  - Rising direct and indirect credit risks from very high lending growth, including foreign-exchange lending to unhedged borrowers.
  - Balance-sheet mismatches and high mortgage credit risk (house prices high relative to incomes).
  - Liquidity risk from increased dependence on foreign funding; private external debt and debt rollover rose sharply.
  - Banking supervision weaknesses amid increased complexity and many small, uncompetitive banks.
- Sector strengths and developments:
  - Banking sector as a whole is profitable and well capitalized; foreign-owned banks account for some 37 percent (another table shows foreign-owned banks' share in statutory capital rising to 36.7 percent in Mar. 2008).
  - Conversion to open-joint-stock companies and increased transparency (NBU published bank ownership; quarterly publication of banks' financial information).
  - Minimum statutory banking capital doubled to Euro 10 mln.
- Supervisory and prudential measures (taken/considered):
  - Consolidated supervision; increased transparency; enhanced risk management; relaxed bank secrecy provisions; strengthened prudential requirements; improved bank exit mechanisms.
  - On-site inspections stepped up; new capital requirements on banks’ maturity gap; higher risk weights for riskier asset classes; possible limits on banks’ net external borrowing to capital; tighter NPL definitions.
- Contingency planning:
  - Authorities expressed interest in contingency planning and simulations; planned gradual relaxation of capital controls sequenced with safeguards.
- Reserve adequacy indicators (selected):
  - GIR (in mos. of next years' imports): 2004 2.6; 2005 4.4; 2006 3.9; 2007 4.2; 2008 4.1.
  - GIR (in percent of ST debt at remaining maturity): 2004 87; 2005 161; 2006 115; 2007 174; 2008 137.
  - Reserves: 2004 14.4; 2005 22.2; 2006 20.2; 2007 23.1; 2008 20.0.

### External vulnerabilities, financing, and debt sustainability
- Findings:
  - Current account deteriorated sharply owing to very strong domestic demand growth and eroding competitiveness, despite large terms-of-trade gains that may be ending.
  - Private external debt and debt rollover have risen sharply, increasing sensitivity to balance-sheet risks and deteriorating global liquidity conditions.
  - Capital inflows, including FDI, remain strong but external spreads have risen more than in similar countries since mid-2007.
- Staff projections and scenarios:
  - Medium-term baseline: external debt stabilizes though at a higher level; public debt is sustainable under a wide range of scenarios.
  - External debt (percent of GDP) series (baseline): 47.6; 47.3; 44.9; 48.9; 56.2; 52.1; 51.6; 52.8; 57.2; 61.6; 64.7 (2003–13).
  - Gross external financing need (US$ billion): 8.4; 6.4; 14.1; 15.2; 18.3; 23.9 (2003–08 series).
  - Baseline current account (percent of GDP): 2004: -10.6; 2005: -2.9; 2006: 1.5; 2007: 4.2; 2008 (Prel.): -7.1; 2009: -9.8.
- Exchange rate assessment (Box 1, percent of GDP adjustments and valuation):
  - Current account balance (2007) -4.2; Underlying current account balance -5.5.
  - CGER valuation approaches (Real Exchange Rate Valuation Relative to Fundamentals (in percent)): Macro-Balance Approach (CGER) 9.8; Equilibrium REER Approach (CGER) Regressing on lagged NFA -5.9; Regressing on current NFA -7.9; External Sustainability Approach (CGER) -0.4; Regional Convergence Approach -7.2; PPP-Approach -6.9; Dollar Wage Approach (2006) 31.2.

### Structural reform priorities and progress
- Progress: some reforms advanced (WTO accession achieved; Euro 2012 seen as investment catalyst).
- Key areas requiring attention:
  - Improve the business climate: update legal framework and accounting standards.
  - Establish a market for agricultural land.
  - Continue trade liberalization: abandon agricultural export restrictions; implement WTO commitments including schedule of export tax reductions and allowing capital flows associated with lending and deposit-taking.
  - Improve energy efficiency and allow domestic prices to reflect full costs (announced gradual increase in gas prices to households).
  - Strengthen tax administration and VAT administration; retain VAT and remove remaining VAT exemptions; introduce a new VAT regime on agriculture.
- Fiscal-structural actions noted:
  - Adopt medium-term budget framework, modernize State Tax Service, reform unfunded social mandates into targeted social protection, align public procurement with EU legislation.

### Staff appraisal: prioritized package and risks
- Overall assessment:
  - Growth remains good and medium-term prospects strong, but rising inflation, a sharply deteriorated current account, and increased financial sector risks warrant policy tightening.
- Emphasized policy package:
  - Fiscal restraint: reduce general government deficit by 1½ percent of GDP in 2008 to bring it near balance.
  - Greater exchange rate flexibility to allow more effective monetary policy and transition to inflation targeting.
  - Strengthened banking supervision and prudential frameworks.
  - Continued structural reforms to raise potential output.
- Uncertainty and risks:
  - Risks to the baseline seen as largely balanced but high uncertainty noted, particularly regarding world steel prices and global financial turbulence.

### Key projections, scenarios, and selected numeric tables (preserved exactly as in source excerpts)
- Real GDP (percent change): 2003: 9.6; 2004: 12.1; 2005: 2.7; 2006: 7.3; 2007: 7.6; 2008 (Est.): 5.6; 2009 (Proj.): 4.2.
- Consumer prices (period average): 5.2; 9.0; 13.5; 9.1; 12.8; 23.2; 16.4 (2003–09).
- Credit growth (12-month percent): 2004: 31.6; 2005: 61.9; 2006: 70.7; 2007 (Dec.): 74.1; 2008 (Mar.): 76.2.
- Credit to GDP ratio (percent): 2004: 25.8; 2005: 32.6; 2006: 45.2; 2007 (Dec.): 51.6; 2008 (Mar.): 60.1; 2008 (Mar.) later entry: 63.1.
- Gross official reserves (end of period, US$ billion): 2005: 19.4; 2006: 22.3; 2007: 32.5; 2008 (Prel.): 36.5; 2009: 35.6.
- Alternative macro scenarios (selected cells from Table 8):
  - Nominal GDP (billions of hryvnias): 2008 (Prel.): 939; 2009: 1,139; 2008 (High growth): 983; 2009 (High growth): 1,263; 2008 (Low growth): 916; 2009 (Low growth): 1,066.
  - Real GDP growth (percent change): 2008 (Prel.): 5.6; 2009: 4.2; 2008 (High): 7.8; 2009 (High): 6.8; 2008 (Low): 4.3; 2009 (Low): 3.0.
  - Consumer prices (end of period): 2008 (Prel.): 18.5; 2009: 13.2; 2008 (High): 21.3; 2009 (High): 21.5; 2008 (Low): 15.8; 2009 (Low): 8.5.
  - Current account balance (percent of GDP): 2008 (Prel.): -7.1; 2009: -9.8; 2008 (High): -6.3; 2009 (High): -9.7; 2008 (Low): -7.2; 2009 (Low): -10.2.

### Statistical issues, data, and Fund relations (highlights)
- Statistical improvements and remaining weaknesses:
  - National accounts updated to a new base year; significant improvements in quarterly GDP compilation and seasonal adjustment.
  - Lack of appropriate quarterly price indices for exports and imports; informal economy measurement needs revision.
  - Balance of payments compiled in broad conformity with BPM5; some weaknesses in trade coverage and classification of financial flows identified.
  - A one-off survey of migrant and related remittances planned in June 2008.
- Fund relations and institutional data:
  - Membership: Joined 09/03/1992; Article VIII.
  - Quota: 1,372.00 SDR Million (100.00).
  - Official hryvnia/U.S. dollar rate on March 31, 2008: 5.05.
  - Projected payments to Fund (Expectations Basis, SDR million): 2008 Principal: 123.66; 2008 Charges/Interest: 5.15; 2008 Total: 128.81; 2009 Principal: 57.28; 2009 Charges/Interest: 1.23; 2009 Total: 58.51.
  - Safeguards assessment completed July 14, 2004; main recommendations include full adoption of IFRS and strengthening NBU independence.

*Italic: IMF staff report content as provided in the source document.*

### Executive Summary

### _cr08227 - Executive Summary

### Growth, inflation, and outlook
- Growth was "very strong": real GDP grew by 7½ percent last year.
- Staff projects growth to slow to 5½ percent in 2008; the authorities project somewhat stronger growth.
- CPI inflation rose to over 25 percent at end-March 2008; core inflation and nominal wage growth also rose and inflation expectations drifted up.
- Staff projects the current account deficit to widen to 7.1 percent of GDP in 2008.
- Recent policy mix and external conditions imply two short-term scenario risks: an upside scenario with continued high inflation, and a downside scenario with significant reserve losses, contracting credit, and sharply declining real GDP growth.

### Fiscal policy: findings and recommendations
- Finding: Nominal public spending has risen by on average over 30 percent a year since 2003, driven by rapidly rising public-sector wages, social transfers, and partial restitution of Soviet-era deposits.
- Finding: Fiscal policy has been procyclical; deficits have been moderate because inflationary revenue windfalls have financed spending increases.
- Staff recommendation: Cut the budget deficit by 1½ percent of GDP in 2008, to 0.5 percent of GDP, by restraining spending.
- Authorities’ stance: Authorities see less scope for spending restraint but envisage a deficit below 1 percent of GDP via buoyant revenues and expect privatization receipts in excess of those in the 2008 budget could be saved.
- Agreed point: Fiscal restraint is key to slowing demand growth and easing inflationary pressures.

### Monetary and exchange rate policy
- Finding: Monetary conditions have tightened somewhat through increased sterilization and new reserve requirements on banks’ foreign borrowing, reducing excess liquidity and raising interest rates, notably on the interbank market.
- Finding: Real interest rates generally remain negative and credit growth remains very high—76 percent year-on-year in March.
- Finding: The de facto peg to the dollar (narrow Hrv/$ 5.00-5.06 band until mid-March) has limited the ability of monetary policy to combat inflation; since mid-March the exchange rate has been allowed to appreciate outside that band.
- Staff recommendation: Increase exchange rate flexibility to give monetary policy more scope, consistent with last year’s NBU policy guideline.
- Medium-term goal: Replace the exchange rate as the nominal anchor with inflation targeting, which will require coordinated effort by the government and the central bank.

### Financial sector: risks and supervisory measures
- Finding: The banking sector as a whole is profitable and well capitalized, but direct and indirect credit risks have increased because of very high lending growth, including foreign-exchange lending to unhedged borrowers.
- Finding: House prices are high relative to incomes, raising mortgage credit risk.
- Finding: Banks’ funding for foreign-exchange lending has shifted to shorter-term foreign loans, mostly from parent banks; bank and corporate euro-bond issuance has dried up since mid-2007.
- Key supervisory measures recommended:
  - Consolidated supervision.
  - Increased transparency.
  - Enhanced risk management.
  - Relaxed bank secrecy provisions.
  - Strengthened prudential requirements.
  - Better mechanisms for bank exit.
- Assessment: The FSAP update was concluded during the discussions; the supervisor should continue to strengthen risk management and oversight.

### External vulnerabilities and debt
- Finding: The current account deficit deteriorated sharply owing to very strong domestic demand growth and eroding competitiveness, despite large terms-of-trade gains that may be ending.
- Finding: Private external debt and debt rollover have risen sharply, increasing sensitivity to balance-sheet risks and deteriorating global liquidity conditions; some external debt may be misrecorded as held by Ukrainians, and some offset by unrecorded foreign-exchange assets in Ukraine.
- Finding: Capital inflows, including FDI, remain strong but external spreads have risen more than in similar countries since mid-2007.
- Staff projection: In the medium term, external debt stabilizes though at a higher level under the baseline; adverse shocks could increase it to uncomfortably high levels.
- Public debt: Public debt is sustainable under a wide range of scenarios.

### Structural reform priorities
- Progress: Some progress on a long structural reform agenda, but much remains undone.
- Key areas requiring attention:
  - Improve the business climate by updating and strengthening the legal framework and improving accounting standards.
  - Establish a market for agricultural land.
  - Continue trade liberalization (WTO accession achieved; abandon agricultural export restrictions).
  - Improve energy efficiency and allow domestic prices to reflect full costs.
  - Strengthen tax administration.
- Authorities’ view: WTO accession and the Euro 2012 Cup are expected to spur investment; WTO commitments include allowing capital flows associated with lending and deposit-taking services, a schedule of export tax reductions, and eliminating trade taxes other than customs tariffs.

### Staff views on policy mix and risks
- Overall assessment: Growth remains good and medium-term prospects are strong, but rising inflation, a sharply deteriorated current account deficit, and increased financial sector risks warrant policy tightening.
- Policy package emphasized:
  - Fiscal restraint (spending restraint to reduce deficit by 1½ percent of GDP in 2008).
  - Greater exchange rate flexibility to allow more effective monetary policy.
  - Strengthened banking supervision and prudential frameworks.
  - Continued progress on structural reforms to raise potential output.
- Uncertainty: Staff saw risks to the baseline as largely balanced but acknowledged high uncertainty, especially regarding world steel prices and the effects of global financial turbulence.

_Executive Summary from IMF country document: _cr08227 - Executive Summary_._

### 15.      The mission argued that spending should be contained, to reduce fiscal pressure

### _cr08227 - 15.      The mission argued that spending should be contained, to reduce fiscal pressure

### Fiscal policy: containment, framework, and recommendations
- Main findings and concerns:
  - Spending should be contained to reduce fiscal pressure and prevent a further increase in government spending in relation to GDP.
  - Growth in transfers should be reined in and further restitution of lost savings delayed until demand pressures eased.
  - Restraining increases in minimum wages and public sector wages is vital to break the wage-price spiral that seemed to be developing.
  - Strengthen tax administration and broaden the tax base to shore up revenues.
  - Staff opposed replacing the VAT with a sales tax, arguing it would aggravate collection problems; the authorities indicated this was fading as a policy issue.
  - The authorities’ inflation plan included some administrative price control measures, which the mission argued would not reduce inflation and would distort incentives.

- Policy recommendations and specific guidance:
  - Fiscal policy should adjust to economic developments given projection uncertainties.
  - Relative to staff advice to hold the 2008 deficit to ½ percent of GDP:
    - If upside risks materialize the deficit should be allowed to shrink further.
    - If growth slows significantly a larger deficit via automatic stabilizers may be appropriate, but only if inflation is clearly abating and financing remains ample.
  - Better integrate macro-fiscal analysis into budget preparation and presentation, in particular cyclically adjusted balances.
  - Adopt a medium-term expenditure framework to enhance fiscal-monetary coordination and guide annual budgets toward medium-term goals.
  - Fully integrate quasi-fiscal subsidies into the budget to improve transparency and reduce fiscal risks.
  - Liberalize prices to reduce fiscal risks and improve economic efficiency.
  - Announced measures: authorities recently announced a gradual increase in gas prices to households (public and private enterprises already pay full cost).
  - Excess privatization receipts should be saved and further restitution of lost savings should be spread over a number of years or offset by spending cuts elsewhere.
  - Incomes policies and increases in minimum wages and public sector wages should be scaled back, to be consistent with single-digit inflation.
  - Tax cuts should be fully offset with spending cuts or base broadening.
  - VAT should be retained; a sales tax would be harder to enforce.
  - Gas prices should be fully passed through to final consumers, with vulnerable groups protected by better targeted social programs.
  - Strengthening tax administration is a priority.

- Numerical and fiscal targets:
  - Staff advised holding the 2008 deficit to ½ percent of GDP.
  - Recommended general government deficit reduction of 1½ percent of GDP in 2008, bringing it to near balance.

### Monetary and exchange rate policy: transition to flexibility and inflation targeting
- Main findings and concerns:
  - NBU emphasized measures taken to tighten monetary conditions and indicated more would be done as needed.
  - NBU judged that excess banking system liquidity had been eliminated, but monetary policy alone could not contain inflation.
  - Effective nominal depreciation of the hryvnia, which had fallen with the dollar, contributed to inflationary pressures.
  - Tight management of the exchange rate made it difficult for the NBU to control inflows and the money supply during 2007 and obscured risks undertaken by unhedged dollar borrowers.
  - Under the de facto exchange rate peg, still-tighter conditions might only attract speculative capital inflows, notwithstanding capital controls on non-resident holdings of hryvnia.
  - Authorities were considering additional reserve requirements on short-term capital.

- Policy recommendations and sequencing:
  - Staff repeated the call for a gradual transition to a more flexible exchange rate and, eventually, inflation targeting (IT).
  - During transition:
    - The exchange rate band should progressively widen.
    - Control of money and credit growth should be used as the interim nominal anchor via monetary instruments.
  - Eventually the exchange rate should be freely floated, with inflation targeting providing the nominal anchor.
  - 2009 monetary policy guidelines should indicate that the band will be progressively widened as circumstances permit and policy needs require, without specifying bands or timing in advance.
  - A clear government mandate to the NBU would bolster credibility; NBU independence must be ensured as the IT framework is put in place.
  - NBU should publish inflation-report-type documents and improve integration of analytics into decision making.
  - Technical reforms to support transition:
    - Greater reliance on domestic-currency government debt issuance (already announced by the government).
    - Early elimination of the foreign exchange transactions tax, rather than in 2010 as scheduled.
    - Strengthen analytical capacity and communications strategy.

- Authorities’ position and operational readiness:
  - Authorities concurred that the value of the hryvnia is broadly consistent with fundamentals, though staff emphasized the situation could deteriorate.
  - If domestic demand and inflation were not contained, continued erosion of cost competitiveness at an unchanged dollar exchange rate could move the hryvnia toward overvaluation.
  - NBU had taken steps to prepare for more flexibility and indicated the band might be widened and a new mechanism for setting the official rate (now Hrv/$5.05) introduced to bring it closer to interbank rates.
  - NBU reported it could soon be fully capable of executing an IT policy but worried about: the very open structure of the Ukraine economy, lack of developed domestic debt and capital markets, and extensive use of administered prices limiting monetary policy effectiveness.
  - NBU issued the Green Paper laying out options for strengthening monetary policy and NBU independence and argued for securitization of outstanding government debt to the NBU and more flexibility in transfer of NBU profits to the government.

- Preparatory actions urged for the government to enable IT:
  - Provide the monetary authorities with a clear inflation-targeting mandate.
  - Ensure NBU operational independence, including being more flexible on profit transfers to the government and securitizing outstanding NBU debt.
  - Abolish the tax on foreign exchange transactions.
  - Securitize government liabilities to the NBU by mid-year.
  - Issue more public debt in hryvnia.
  - Liberalize domestic prices to maximize monetary policy leverage over inflation.

### Exchange rate assessment (Box 1 and related indicators)
- Box 1 findings and underlying current account adjustments (in percent of GDP):
  - Current account balance (2007) -4.2
  - Business cycle Ukraine 0.4
  - Business cycle trading partners -0.2
  - Gas price subsidy -2.0
  - on imports -3.6
  - on transit 1.6
  - Temporary export ban on grain 0.3
  - Temporary closure of oil refineries 0.6
  - Lagged effect real exchange rate -0.4
  - Underlying current account balance -5.5
  - Note: On the CGER macroeconomic balance approach, adjusting for temporary factors the current account deficit was 5½ percent of GDP in 2007, below the norm of about 3 percent of GDP but within the broad margin of error.
- CGER and valuation approaches (Fund staff calculations, “Real Exchange Rate Valuation Relative to Fundamentals (in percent)”):
  - Macro-Balance Approach (CGER) 9.8
  - Equilibrium REER Approach (CGER): Regressing on lagged NFA -5.9; Regressing on current NFA -7.9
  - External Sustainability Approach (CGER) -0.4
  - Regional Convergence Approach -7.2
  - PPP-Approach -6.9
  - Dollar Wage Approach (2006) 31.2
  - (1/ A minus sign denotes undervaluation)

### Financial sector policy: vulnerabilities and supervisory measures
- Main vulnerabilities identified (FSAP update):
  - Rising credit risks stemming from very high credit growth.
  - Balance sheet mismatches as unhedged households have borrowed heavily in dollars.
  - Liquidity risk as banks have become increasingly dependent on foreign funding.
  - Banking supervision weaknesses aggravated by increasing complexity of the financial sector.
  - Existence of a number of small, apparently uncompetitive banks.

- Authorities’ assessment and sector strengths:
  - Banking sector as a whole seemed profitable and well capitalized.
  - Foreign-owned banks account for some 37 percent of banking system capital and have strengthened the sector, though they account for much of the increase in credit (including dollar loans).
  - Transparency has improved: NBU published a list of ownership of most banks and required quarterly publication of banks’ financial information.
  - Conversion of banks to open-joint-stock companies is underway and expected to improve transparency.
  - Increase in minimum bank capital requirements to a level twice that in Europe is encouraging bank consolidation.
  - Supervisor acknowledged concern over scale of dollar lending and potential problems with quality of household loans.

- Supervisory and prudential measures taken or considered:
  - On-site inspection stepped up.
  - In 2008, as maturities on foreign borrowing shortened and with no sign of slowing credit growth:
    - New capital requirements imposed on banks’ maturity gap.
    - Higher risk weights attached to riskier asset classes.
  - Possible further measures: limits on banks’ net external borrowing to capital and tighter definitions of non-performing loans—taken with consideration of stress from monetary tightening.
  - Recommendations to improve bank resolution framework to facilitate bank mergers and increase incentives of owners of weak banks to agree to mergers.

- Contingency planning and crisis preparedness:
  - Authorities noted successful crisis management in 2004, including tightening capital controls, and that reserve position is much stronger now than then.
  - Mission agreed Ukraine is stronger now but cautioned that dependence on external financing and a larger, more sophisticated banking sector pose new risks.
  - Planned gradual relaxation of capital controls (supported by staff, subject to narrowly defined safeguards) would remove a past tool.
  - Authorities expressed interest in contingency planning, including simulations of government body responses to unexpected adverse events.

- Reserve adequacy indicators (selected years and ratios):
  - GIR (in mos. of next years' imports): 2004 2.6; 2005 4.4; 2006 3.9; 2007 4.2; 2008 4.1
  - GIR (in percent of ST debt at remaining maturity): 2004 87; 2005 161; 2006 115; 2007 174; 2008 137
  - GIR (in percent of ST debt at RM and banks' FX deposits): 2004 57; 2005 92; 2006 79; 2007 89; 2008 71
  - Reserves: 2004 14.4; 2005 22.2; 2006 20.2; 2007 23.1; 2008 20.0
  - Three-months of imports: 2004 14.0; 2005 12.7; 2006 12.4; 2007 12.8; 2008 12.5
  - Greenspan-Guidotti rule: 2004 16.8; 2005 14.0; 2006 13.3; 2007 13.2; 2008 14.6
  - Jeanne-Ranciere rule (middle income country calibration): 2004 19.5; 2005 16.6; 2006 15.9; 2007 15.9; 2008 17.2
  - Jeanne-Ranciere rule (Ukraine specific term premium): 2004 16.7; 2005 13.0; 2006 12.9; 2007 12.9; 2008 14.2

### Staff appraisal: risks, priorities, and strategic advice
- Overall assessment:
  - Ukrainian economy has grown strongly since 2000 with medium-term potential described as enormous.
  - Improvements: higher reserves, strong underlying fiscal position, a generally well capitalized and profitable financial sector, WTO accession, EU trade agreement negotiations, and Euro 2012 supporting structural reform.
  - Amid global financial turmoil and commodity price volatility, heightened vulnerabilities require measures to strengthen fiscal, monetary, and financial policies.

- Key risks highlighted:
  - Very strong domestic demand growth has resulted in a deteriorating current account and, with rising food and energy prices, unacceptably high inflation.
  - Real exchange rate could become overvalued if domestic demand growth and inflation persist.
  - Global turbulence has heightened external financing risks.
  - Very high domestic lending growth, including foreign exchange lending to unhedged borrowers, and high house prices point to increased credit risks.

- Prioritized recommendations (summary):
  - Tighten the fiscal stance to contain domestic demand: reduce general government deficit by 1½ percent of GDP in 2008 to bring it near balance.
  - Be ready to adjust the fiscal deficit via automatic stabilizers depending on growth and inflation outcomes.
  - Save excess privatization receipts; spread restitution of lost savings; scale back incomes policies inconsistent with single-digit inflation.
  - Strengthen fiscal framework: use structural fiscal balances, broaden fiscal coverage, adopt a medium-term fiscal framework.
  - Continue NBU policies to tighten monetary conditions; transition to a more flexible exchange rate and ultimately to inflation targeting as the nominal anchor.
  - Ensure public and decisive government support for inflation targeting and provide the NBU with a clear mandate and operational independence.
  - Prepare enabling measures for IT: abolish foreign exchange transactions tax, securitize liabilities to the NBU by mid-year, issue more hryvnia public debt, liberalize domestic prices.

_Italic: IMF staff report content as provided in the source document._

### 34.      Although the banking sector as a whole seems profitable and well capitalized, it

### _cr08227 - 34.      Although the banking sector as a whole seems profitable and well capitalized, it

### Banking sector assessment and supervisory priorities
- Although the banking sector as a whole seems profitable and well capitalized, it will be crucial to address the growing vulnerabilities identified in the FSAP update.
- Key measures to strengthen supervision:
  - consolidated supervision;
  - increased transparency of bank ownership (the recent publication by the NBU of bank ownership is welcome in this regard);
  - encouragement to banks to enhance their risk management capabilities;
  - strong guidance to banks regarding stress testing;
  - intensified on-site examinations.

### Prudential measures and problem banks
- Prudential measures might include, in addition to the recent welcome increase in minimum statutory capital:
  - greater risk weights for assets that pose higher credit risk (notably unhedged foreign currency denominated lending);
  - stronger prudential requirements for banks with deteriorating liquidity positions.
- Problem banks need to be identified earlier and bank exit options expanded to encourage mergers.
- To foster the development of capital markets, non-bank supervision should be strengthened.

### Contingency planning and capital account liberalization
- Contingency planning should be further developed and refined, to ensure an effective response in the event of unforeseen turbulence.
- Close cooperation across relevant governmental agencies will be critical in such circumstances, and simulations would help foster this.
- The authorities’ intention to implement a sequenced liberalization of capital controls, including through a new foreign exchange law, is welcome, although safeguards should be retained to be used only in clearly specified and exceptional circumstances.

### Data and statistics
- Ukrainian statistics have improved significantly and are adequate for surveillance.
- Heightened risks underscore the need to improve data on:
  - foreign trade, notably trade prices;
  - external assets, liabilities, and investment flows.

*Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2008/_cr08227.pdf*

### 37.      It is recommended that the next consultation occur on the standard 12-month cycle.

### _cr08227 - 37.      It is recommended that the next consultation occur on the standard 12-month cycle.

### Key recommendation
- It is recommended that the next consultation occur on the standard 12-month cycle.

### Real economy and growth
- Real GDP (percent change):
  - 2003: 9.6
  - 2004: 12.1
  - 2005: 2.7
  - 2006: 7.3
  - 2007: 7.6
  - 2008 (Est.): 5.6
  - 2009 (Proj.): 4.2
- Domestic demand (contribution): 11.4; 9.1; 13.2; 13.1; 16.1; 11.6; 6.9 (2003–09)
- Net exports (contribution): -1.8; 3.0; -10.5; -5.8; -8.5; -6.0; -2.7 (2003–09)
- Output gap: -1.0; 3.3; -0.6; -0.3; 1.4; 1.1; -0.4 (2003–09)
- Unemployment rate (ILO definition; percent): 9.1; 8.6; 7.2; 6.8; 6.4; 5.5; 5.7 (2003–09)

### Inflation, wages, and price pressures
- Consumer prices (period average): 5.2; 9.0; 13.5; 9.1; 12.8; 23.2; 16.4 (2003–09)
- Consumer prices (end of period): 8.2; 12.3; 10.3; 11.6; 16.6; 18.5; 13.2 (2003–09)
- Core inflation (end of period) 1/: 8.7; 12.0; 13.8; 7.2; 13.4; 17.3; 12.3 (2003–09)
- Nominal monthly wages (average): 23.0; 27.5; 36.7; 29.2; 29.7; 39.3; 27.0 (2003–09)
- Real monthly wages (average): 16.9; 17.0; 20.5; 18.6; 15.0; 13.1; 9.1 (2003–09)
- Charts and text note: since end-2006 CPI inflation increased more in Ukraine than neighboring countries; underlying inflation rising rapidly; wage growth well above productivity raising wage-price spiral concerns.

1/ Core inflation concept used: 65th percentile of distribution of monthly price changes.

### Banking sector and credit developments
- Credit growth (12-month percent) and real credit growth surged in 2001–07; household and enterprise credit expanded strongly.
- Foreign-currency exposure and funding:
  - Foreign currency loans to total loans: 41.4; 42.1; 43.2; 49.4; 49.8; 50.8; 48.8 (mem. 2003–07)
  - Foreign currency deposits to total deposits: 32.0; 36.4; 34.3; 38.0; 32.1; 32.6; 33.3 (mem. 2003–07)
- Indicators: NPL ratios fell during the credit boom; interest spread incentivized FX lending; banks increasingly relied on external borrowing, raising liquidity and indirect credit risks.

### Asset markets and financial deepening
- Household credit (percent of GDP) and house prices rose sharply; average per sq. m. prices in US$ show substantial increases (house prices index with 2001 base).
- Equity market: impressive capitalization noted for Ukraine (2007 data) but concentrated and illiquid; foreign-exchange market turnover remains very low.
- Debt markets underdeveloped; outstanding stock of debt securities low relative to peers.

### External sector and financing
- Current account balance (US$, Table 3 current account balance series):
  - 2005: 2,531
  - 2006: -1,617
  - 2007: -5,918
  - 2008: -13,376
  - 2009: -21,887
  - 2010: -25,453
  - 2011: -26,297
  - 2012: -25,467
  - 2013: -26,752
- Merchandise trade balance and exports/imports (US$ million) show rapidly widening trade deficits driven by imports growth.
- Financial and capital account:
  - Strong pickup in FDI and other capital inflows in recent years (Table 3: Financial and capital account: 8,038; 4,088; 15,776; 18,171; 21,519; 24,974; 28,165; 31,692; 34,564 for 2005–13)
- Gross international reserves (end-period, US$ billion, Table 3): 19.3; 22.3; 32.5; 36.5; 35.6; 34.6; 36.0; 41.8; 49.1 (2005–13)
- Gross external financing requirement (US$ billion, Table 4 memorandum): 8.4; 6.4; 14.1; 15.2; 18.3; 23.9 (2003–08 series)
- Markets and vulnerability indicators: EMBI and spreads rose amid political turmoil; Hryvnia spot and forward data indicate market concern (example points: Jul-07 5.6; Apr-08 5.4 in Hrv/$ context shown).

### Vulnerabilities and scenario analysis
- Figure 11–12 bound tests show external debt and public debt vulnerability under shocks:
  - External debt (percent of GDP) and public debt (percent of GDP) projected to rise under adverse shocks (growth, interest rate, current account, and real depreciation scenarios including a one-time 30 percent real depreciation).
- Short-term macro prospects under alternative scenarios (assumptions listed):
  - Baseline assumes: (i) de facto exchange rate peg through 2009; (ii) full pass-through of rising energy import prices; (iii) free-play of automatic stabilizers in 2008 and general government fiscal deficit of 1.5 percent of GDP in 2009; (iv) alignment of minimum wage with minimum subsistence by end-2009; (v) convergence of natural gas prices to Western European levels (adjusted for transit) by 2009.
  - Upside scenario 2/: increase in steel prices by 40 percent in 2008 and stabilization in 2009, more favorable financing conditions, significantly higher FDI relative to baseline.
  - Downside scenario 3/: increase in steel prices by 10 percent in 2008 followed by a decline by 15 percent in 2009; significantly lower FDI; much more difficult financing conditions.
- Scenario outcomes (charts/text):
  - Upside: higher real GDP growth, higher FDI, reserves comfortable.
  - Downside: severe GDP contraction risk, sharp deterioration in current account, external debt elevated, official reserves could fall rapidly to dangerously low levels.

2/ Upside scenario description excerpt from source. 3/ Downside scenario description excerpt from source.

### Fiscal policy stance and public finances
- Rapid government revenue growth has financed a large increase in government size; fiscal policy turned expansionary in recent years.
- Key fiscal figures (Table 2, percent of GDP):
  - Revenue: 38.0; 37.1; 41.8; 43.7; 42.3; 43.9; 43.7 (2003–09)
  - Expenditure (cash basis): 38.9; 41.5; 44.1; 45.1; 44.3; 45.1; 45.2 (2003–09)
  - Cash balance (percent of GDP): -0.9; -4.4; -2.3; -1.4; -2.0; -1.2; -1.5 (2003–09)
  - Public debt (percent of GDP): 30.6; 25.5; 18.7; 15.7; 12.5; 9.5; 8.4 (2003–09)
- Table 5 (detailed general government finances, Hrv millions and percent of GDP) documents:
  - Nominal GDP (Hrv million) (mem.): 345,113; 441,452; 544,153; 712,945; 938,762; 938,762; 1,138,986 (2004–09 series)
  - Key components: Tax revenue, VAT collections and refunds, pensions, transfers, interest (domestic and foreign), capital spending, overall balance (cash and commitment basis).
- Contingent liabilities: still significant outstanding stock (lost-savings deposits) implies risks despite low public debt.

### Monetary policy and reserves
- Exchange rate regime: de facto peg to the U.S. dollar.
- NBU interventions have been heavy under the de facto peg (NBU interventions chart and text).
- Money growth (12-month): base money and broad money exhibited very rapid growth; broad money to GDP ratio increased substantially.
- Banking system liquidity: excess reserves high in late 2007 but turned down; NBU tightened policies yet overall monetary conditions remain loose.
- Reserves and buffers (Figure 14):
  - International reserves against benchmarks and ratios to short-term debt rose in recent years though Ukraine has not accumulated reserves to the extent of other commodity producers.
  - Reserve metrics and banking system capital: reserves grew to more comfortable levels recently; banking system capital declined slightly since 2003 but foreign participation rose; government low debt ratio provides some room to absorb contingent liabilities.

### Structural reforms and policy advice reaction (Table 1 & Table 7 highlights)
- IMF advice and authorities’ reaction (Table 1 summary):
  - Fiscal policy: IMF advised maintain general government deficit ~2 percent of GDP and save excess revenues; deficit kept below 2 percent but excess revenues largely spent; wages and social transfers grew rapidly.
  - Monetary/exchange rate policy: shift to flexible exchange rate and inflation targeting; NBU agrees in principle but change slow; TA helped build capacity.
  - Financial sector policy: raise capital and provisioning; legal amendments stalled; capital adequacy remained around 10 percent despite raised requirements.
  - Structural reforms: emphasis on trade, energy price pass-through, VAT administration, financial sector development; WTO accession achieved; limited progress on other reforms.
- Structural reform main achievements since 2000 and outstanding reforms (Table 7 excerpts):
  - Achievements: eliminated tax preferences (2004–05); repealed/amended nearly 5,000 business regulations (2005–06); received market economy status from EU and US (2006); slashed average import tariffs.
  - Outstanding: adopt Joint Stock Company Law and Limited Liability Company Law; adopt IAS for large corporates; lift moratorium on resale of agricultural land; reform court system; transparent privatization program; energy sector and tax administration reforms.

*Italic: Source — _cr08227 (extracted content as provided).*

### 5.1 percent (2005).

### _cr08227 - 5.1 percent (2005).

### WTO and EU trade integration
- Completed the main steps leading to WTO accession (2007-08).
- Progress in the negotiations of a EU-Ukraine trade agreement.

### Energy sector — achievements and policy actions
- Eliminated the culture of non-payment in the energy sector (2000-2002).
- Adopted legislation to mutually offset and restructure debts in the energy sector (2005).
- Adopted cash payments for gas transits through Ukraine, rather than payments in kind (2005).
- Implement strategy to make Naftogaz internationally competitive.
- Implement Ukraine’s coal mine restructuring plan.
- Enhance independence of National Electricity Regulatory Commission.
- Stimulate energy savings by allowing prices to reflect costs.

### Fiscal-structural reforms — actions and priorities
- Adopted a budget code establishing a solid legal framework for budget management and many of the budget execution and reporting functions (2001).
- Implement comprehensive reform for State Tax Administration.
- Bring the State Tax Administration and Customs under the control of the Ministry of Finance.* 
- Implement a medium-term budget framework.
- Bring public procurement legislation in line with EU legislation.
- Set up a monitoring and oversight system for financial risks in state-owned enterprises.
- Reform the system of unfunded social mandates and replace it with a targeted social protection system.
- Reduce tax rates over time, but subject to expansion of the tax base and/or reductions in government spending.
- Note: 1/ Measures include those listed in the Ukraine-EU Action Plan, and World Bank, OECD, and Fund recommendations. * denotes measures which are not part of the government programme.

### Alternative macro scenarios and key projections (Table 8) — selected statistics
- Nominal GDP (billions of hryvnias): 2004: 345; 2005: 441; 2006: 544; 2007: 713; 2008 (Prel.): 939; 2009: 1,139; 2008 (High growth): 983; 2009 (High growth): 1,263; 2008 (Low growth): 916; 2009 (Low growth): 1,066.
- Real GDP growth (percent change): 2004: 12.1; 2005: 2.7; 2006: 7.3; 2007: 7.6; 2008 (Prel.): 5.6; 2009: 4.2; 2008 (High): 7.8; 2009 (High): 6.8; 2008 (Low): 4.3; 2009 (Low): 3.0.
- Output gap: 2004: 3.3; 2005: -0.6; 2006: -0.3; 2007: 1.4; 2008 (Prel.): 1.1; 2009: -0.4; 2008 (High): 3.3; 2009 (High): 4.4; 2008 (Low): -0.2; 2009 (Low): -2.9.
- Consumer prices (percent change; end of period): 2004: 12.3; 2005: 10.3; 2006: 11.6; 2007: 16.6; 2008 (Prel.): 18.5; 2009: 13.2; 2008 (High): 21.3; 2009 (High): 21.5; 2008 (Low): 15.8; 2009 (Low): 8.5.
- Cash balance (percent of GDP): 2004: -4.4; 2005: -2.3; 2006: -1.4; 2007: -2.0; 2008 (Prel.): -1.2; 2009: -1.5; 2008 (High): 0.0; 2009 (High): -1.5; 2008 (Low): -2.0; 2009 (Low): -1.5.
- Revenue and grants (percent of GDP): 2004: 37.1; 2005: 41.8; 2006: 43.7; 2007: 42.3; 2008 (Prel.): 43.9; 2009: 43.7.
- Expenditure and net lending (cash basis, percent of GDP): 2004: 41.5; 2005: 44.1; 2006: 45.1; 2007: 44.3; 2008 (Prel.): 45.1; 2009: 45.2.
- Public debt (end of period, percent of GDP) 3/: 2004: 25.5; 2005: 18.7; 2006: 15.7; 2007: 12.5; 2008 (Prel.): 9.5; 2009: 8.4; 2008 (High): 9.1; 2009 (High): 7.4; 2008 (Low): 10.2; 2009 (Low): 9.8.
- Current account balance (percent of GDP): 2004: -10.6; 2005: -2.9; 2006: 1.5; 2007: 4.2; 2008 (Prel.): -7.1; 2009: -9.8; 2008 (High): -6.3; 2009 (High): -9.7; 2008 (Low): -7.2; 2009 (Low): -10.2.
- Gross official reserves (end of period, in billions of U.S. dollars): 2004: 9.5; 2005: 19.4; 2006: 22.3; 2007: 32.5; 2008 (Prel.): 36.5; 2009: 35.6; 2008 (High): 46.3; 2009 (High): 58.9; 2008 (Low): 31.4; 2009 (Low): 20.5.
- Baseline scenario assumptions include: (i) a de facto exchange rate peg through 2009 and passive monetary policy in support of this; (ii) convergence of natural gas import prices to Western European levels (adjusted for transit) by 2009; (iii) full pass-through of rising energy import prices; (iii) the free-play of automatic stabilizers in 2008 and a general government fiscal deficit of 1.5 percent of GDP in 2009; and (iv) alignment of the minimum wage with the minimum subsistence level by end-2009.
- Upside scenario: increase in steel prices by 40 percent in 2008 and stabilization in 2009, more favorable financing conditions and significantly higher FDI relative to the baseline.
- Downside scenario: increase in steel prices by 10 in 2008, followed by a 10 percent decline in 2009; significantly lower FDI relative to the baseline, and more difficult financing conditions.

### Medium-Term Macroeconomic Framework (Table 9) — selected projections 2008–2013
- Nominal GDP (billions of hryvnias): 2008 (Prel.): 939; 2009: 1,139; 2010: 1,332; 2011: 1,532; 2012: 1,762; 2013: 1,2027...
- Real GDP growth (percent change): 2008 (Prel.): 5.6; 2009: 4.2; 2010: 3.5; 2011: 4.6; 2012: 5.8; 2013: 6.5.
- Consumer prices (percent change; end of period): 2008 (Prel.): 18.5; 2009: 13.2; 2010: 9.7; 2011: 8.5; 2012: 7.1; 2013: 5.9.
- Cash balance (percent of GDP): 2008 (Prel.): -1.2; 2009: -1.5; 2010: -2.0; 2011: -2.5; 2012: -2.5; 2013: -2.0.
- Public debt (end of period, percent of GDP) 4/: 2008 (Prel.): 9.5; 2009: 8.4; 2010: 8.1; 2011: 8.3; 2012: 8.6; 2013: 8.9.
- Current account balance (percent of GDP): 2008 (Prel.): -7.1; 2009: -9.8; 2010: -10.1; 2011: -9.8; 2012: -9.0; 2013: -8.8.
- Gross official reserves (end of period, in billions of U.S. dollars): 2008 (Prel.): 36.5; 2009: 35.6; 2010: 34.6; 2011: 36.0; 2012: 41.8; 2013: 49.1.
- Note: baseline policy assumptions include a de facto exchange rate peg through 2009, followed by a gradually widening exchange rate corridor, passive monetary policy through 2009, convergence of natural gas import prices to Western European levels by 2009, full pass-through of rising energy import prices, and alignment of the minimum wage with the minimum subsistence level by end-2009.

### External debt sustainability (Table 10) — highlights 2003–2013
- Baseline external debt (percent of GDP): 2003: 47.6; 2004: 47.3; 2005: 44.9; 2006: 48.9; 2007: 56.2; 2008: 52.1; 2009: 51.6; 2010: 52.8; 2011: 57.2; 2012: 61.6; 2013: 64.7.
- External debt-to-exports ratio (in percent): 2003: 82.4; 2004: 74.4; 2005: 87.1; 2006: 105.1; 2007: 124.3; 2008: 128.3; 2009: 139.8; 2010: 151.1; 2011: 160.1; 2012: 164.1; 2013: 172.6.
- Gross external financing need (in billions of U.S. dollars): 2003: 7.3; 2004: 4.0; 2005: 9.5; 2006: 15.9; 2007: 24.5; 2008: 40.0; 2009: 52.4; 2010: 58.7; 2011: 61.6; 2012: 62.5; 2013: 65.9.
- In percent of GDP, gross external financing need: 2003: 14.7; 2004: 6.2; 2005: 11.0; 2006: 14.7; 2007: 17.3; 2008: 21.3; 2009: 23.4; 2010: 23.3; 2011: 23.0; 2012: 22.0; 2013: 21.6.
- Key macro assumptions underlying baseline: Real GDP growth (percent): 2003: 9.6; 2004: 12.1; 2005: 2.6; 2006: 7.3; 2007: 7.6; 2008: 5.6; 2009: 4.2; 2010: 3.5; 2011: 4.6; 2012: 5.8; 2013: 6.5.

### Public sector debt sustainability (Table 11) — highlights 2003–2013
- Baseline public sector debt (percent of GDP): 2003: 30.6; 2004: 25.5; 2005: 18.7; 2006: 15.7; 2007: 12.5; 2008: 9.5; 2009: 8.4; 2010: 8.1; 2011: 8.3; 2012: 8.6; 2013: 8.9.
- Change in public sector debt (percent of GDP): 2003: -5.1; 2004: -5.1; 2005: -6.9; 2006: -2.9; 2007: -3.2; 2008: -3.0; 2009: -1.2; 2010: -0.3; 2011: 0.2; 2012: 0.2; 2013: 0.3.
- Identified debt-creating flows (percent of GDP): 2003: -5.7; 2004: -5.6; 2005: -9.0; 2006: -2.3; 2007: -2.5; 2008: -3.0; 2009: -1.0; 2010: 0.2; 2011: 0.9; 2012: 0.9; 2013: 0.4.
- Primary deficit (percent of GDP): 2003: -0.1; 2004: 3.5; 2005: 1.5; 2006: 0.7; 2007: 1.5; 2008: 0.8; 2009: 1.2; 2010: 1.7; 2011: 2.2; 2012: 2.1; 2013: 1.6.
- Revenue and grants (percent of GDP): 2003: 38.0; 2004: 37.1; 2005: 41.8; 2006: 43.7; 2007: 42.3; 2008: 43.9; 2009: 43.7; 2010: 43.4; 2011: 42.8; 2012: 42.6; 2013: 42.5.
- Public sector debt-to-revenue ratio: 2003: 80.6; 2004: 68.8; 2005: 44.6; 2006: 36.0; 2007: 29.6; 2008: 21.7; 2009: 19.1; 2010: 18.7; 2011: 19.5; 2012: 20.2; 2013: 20.9.
- Gross financing need (percent of GDP): 2003: 3.6; 2004: 6.8; 2005: 5.5; 2006: 3.1; 2007: 2.9; 2008: 1.9; 2009: 2.2; 2010: 2.7; 2011: 3.2; 2012: 3.1; 2013: 2.6.
- In billions of U.S. dollars, gross financing need: 2003: 1.8; 2004: 4.4; 2005: 4.7; 2006: 3.3; 2007: 4.0; 2008: 3.6; 2009: 5.0; 2010: 6.8; 2011: 8.6; 2012: 8.9; 2013: 8.1.

### Selected tax policy and administration priorities (Table 12)
- Authorities proposals (selected):
  - Replace the VAT with a retail stage sales tax (BYT election platform).
  - Maintain different registration thresholds for the VAT and the Simplified Tax System (STS).
  - Phase out the foreign exchange transactions tax (FETT) over several years.
  - Tax administration proposals include setting a 30 day limit on large taxpayer audits (extendable by 30 days), requiring court approval for certain collection and registration actions, and instituting high penalties (50 percent of underreported liability).
- Staff recommendations:
  - Retain the VAT to ensure compliance, remove remaining VAT exemptions, and introduce the new VAT regime on agriculture.
  - Keep preferential investment incentives to a minimum; avoid exempting exporters from corporate income tax; use accelerated depreciation and capital allowances to stimulate investment.
  - Align the STS threshold with that of the VAT; reduce the threshold for physical persons; rationalize eligibility and set up a graduation rule.
  - Immediately abolish the FETT to encourage the development of the foreign exchange market.
  - Tax administration: Do not set timeframes for completing audits; ensure fair treatment via clear audit standards, publish taxpayer rights, allow appeals and investigation of harassment/corruption allegations.
  - Allow filing of tax lien, seizure of financial assets, registration/deregistration conditions, and access to banking information for audit purposes without court approval to ensure effective collection and combat fraud.
  - Introduce a two-tiered penalty for simple and gross negligence and a separate penalty for late filing, in line with international standards.
- VAT administration recommendations:
  - Establish a clear deadline for the refund based on the expiry of the carry-forward period; exporters should be reimbursed monthly.
  - Repeal the requirement for a full audit of cash refunds and reduce supporting documentation via a risk-based verification system and a dedicated VAT audit program.
  - Ensure interest is paid on late refunds and adequately budget for projected refund claims.

### Moving to inflation targeting — progress report (Table 13)
- Institutional framework:
  - Key achievement: Published a draft Green paper soliciting public input on options for NBU mandate and independence.
  - Further steps: Finalize the Green paper and translate into an Action Plan for 2008-09; adopt further amendments to the NBU Act to provide a clear mandate to achieve price stability and greater independence.
- Exchange rate flexibility:
  - Key achievement: Allowed the hryvnia/U.S. dollar exchange rate to fluctuate in a 1 percent corridor, and to occasionally move up to 1 percent outside this corridor.
  - Further step: Gradually allow greater exchange rate flexibility, within a narrow but, over time, widening exchange rate corridor.
- Monetary policy instruments:
  - Key achievement: Introduced more active use of deposit facility, focused around two week CDs, at a low interest rate of 1 percent.
  - Further steps: Identify key policy rate; actively steer the policy rate within a gradually narrowing interest rate corridor; apply monetary instruments consistently, transparently, and market-oriented.
- Capacity to model and forecast:
  - Key achievements: Regular preparation of a macroeconomic survey assessing short term outlook; developed an exclusion-based core inflation indicator and began publishing from January 2008; refined quarterly projection model and quarterly business outlook survey.
  - Further steps: Integrate macroeconomic survey into monetary policy decision making; develop full range of core inflation indicators.
- Communication of monetary policies:
  - Key achievements: Introduced more frequent public discussion of monetary policy; outreach to financial sector and academia on IT (inflation targeting).
  - Further steps: Issue an Inflation Report; further modernize the NBU website; conduct press conferences and issue press releases on inflation targeting.
- Financial market development:
  - Key achievements: Foreign exchange turnover tax reduced to 0.5 percent in 2008 budget; prepared concept note and draft legislation on foreign exchange market liberalization.
  - Further steps: Abolish the foreign exchange turnover tax; develop benchmarks for government securities; simplify procedures for working in the foreign exchange market.
- Banking sector stability:
  - Key achievements: Gradually implement more risk-based supervision.
  - Further steps: Further tighten banking supervision, regulation, and legislation.
- Note: 1/ Steps identified in the NBU’s 2006 Action Plan and Fund recommendations.

### Financial soundness indicators for the banking sector (Table 14) — selected figures 2004–2008 (Mar.–Dec. 2007; 2008 Mar.)
- Number of banks: 2004: 160; 2005: 165; 2006: 170; 2007: 173; 2008 (Mar.): 174; 2008 (Jun.): 175; 2008 (Sep.): 176.
- Foreign-owned banks' share in statutory capital (percent): 2004: 9.6; 2005: 19.5; 2006: 27.6; 2007 (Mar.): 29.8; 2007 (Jun.): 32.8; 2007 (Sep.): 35.0; 2007 (Dec.): 35.0; 2008 (Mar.): 36.7.
- Regulatory capital to risk-weighted assets (percent): 2004: 16.8; 2005: 15.0; 2006: 14.2; 2007 (Mar.): 14.0; 2007 (Jun.): 14.0; 2007 (Sep.): 13.9; 2007 (Dec.): 13.9; 2008 (Mar.): 13.3.
- Credit growth (year-over-year, percent): 2004: 31.6; 2005: 61.9; 2006: 70.7; 2007 (Mar.): 73.0; 2007 (Jun.): 75.6; 2007 (Sep.): 75.1; 2007 (Dec.): 74.1; 2008 (Mar.): 76.2.
- Credit to GDP ratio (percent): 2004: 25.8; 2005: 32.6; 2006: 45.2; 2007 (Mar.): 47.7; 2007 (Dec.): 51.6; 2008 (Mar.): 60.1; 2008 (Mar.) later entry: 63.1.
- NPLs to total loans (percent) 1/2/: 2004: 30.0; 2005: 19.6; 2006: 17.8; 2007 (Mar.): 17.6; 2007 (Jun.): 16.5; 2007 (Sep.): 14.8; 2007 (Dec.): 13.2.
- Loans in foreign currency to total loans (percent): 2004: 42.1; 2005: 43.2; 2006: 49.4; 2007 (Mar.): 50.8; 2007 (Jun.): 51.2; 2007 (Sep.): 51.5; 2007 (Dec.): 49.8; 2008 (Mar.): 49.4.
- Deposits in foreign currency to total deposits (percent): 2004: 36.4; 2005: 34.3; 2006: 38.1; 2007 (Mar.): 38.8; 2007 (Jun.): 36.5; 2007 (Sep.): 34.6; 2007 (Dec.): 32.1; 2008 (Mar.): 33.1.
- Return on assets (after tax; end-of-period, percent): 2004: 1.1; 2005: 1.3; 2006: 1.6; 2007 (Dec.): 1.5; 2008 (Mar.): 1.4.
- Sources: National Bank of Ukraine; and staff estimates.

### FSAP Update priority recommendations (Table 15)
- Bank balance sheet risks:
  - Vulnerabilities: Growing indirect credit risk from balance sheet currency mismatches; growing direct credit risk due to rapid credit growth; growing liquidity risk due to dependence on foreign financing.
  - Measures: Gradually shift to a flexible exchange rate within an inflation targeting regime; targeted prudential strengthening (e.g. higher risk weights for riskier assets); close monitoring of liquidity risk management; contingency planning including enhanced stress testing.
  - Priority: High.
- Banking sector development:
  - Vulnerabilities: Increasing complexity of the financial system; large remnant of small structurally weak banks.
  - Measures: Deepen consolidated supervision; deepen supervisory cooperation; increase bank disclosure standards and transparency practices; strengthen bank resolution framework to facilitate merger and acquisition.
  - Priority: High.
- Capital market development:
  - Vulnerabilities: Debt market underdevelopment; inadequate legal, regulatory, and supervisory framework for securities markets.
  - Measures: Issue more Hrv denominated government debt; greater independence and financial autonomy for securities and NBFI regulators; increase NBFI disclosure standards and transparency practices.
  - Priority: Medium.

### Millennium Development Goals — selected indicators (Table 16)
- Poverty and hunger:
  - Population below minimum level of dietary energy consumption (percent): 2000: 3.0; 2003: 3.0; 2004: 3.0; 2005: ...
  - Poverty headcount, national (percent of population): 2003: 20.0.
- Education:
  - Net primary enrollment ratio (percent of relevant age group): 2003: 85.0; 2004: 86.0.
  - Primary completion rate, total (percent): 1990: 100.6; 1994: 93.5; 2003: 92.0; 2004: 95.0.
  - Youth literacy rate (percent ages 15-24): 1990: 100; 2000: 100.
- Health:
  - Immunization, measles (percent of children ages 12-23 months): 1997: 96.0; 2000: 97.0; 2003: 99.0; 2004: 99.0; 2005: 99.0.
  - Infant mortality rate (per 1,000 live births): 2003: 19.0; 2005: 18.0; 2004: 14.0.
  - Under 5 mortality rate (per 1,000): 2003: 26.0; 2005: 24.0; 2004: 18.0.
- Environment and ICT:
  - Access to an improved water source (percent of population): 2003: 98.0.
  - Access to improved sanitation (percent of population): 1990: 99.0; 2004: 99.0.
  - Fixed line and mobile phone subscribers (per 1,000 people): 1990: 135.4; 1994: 155.4; 1997: 187.1; 2000: 228.5; 2003: 368.3; 2004: 545.3; 2005: ...
  - Internet users (per 1,000 people): 1997: 0.0; 2000: 0.1; 2003: 2.0; 2004: 7.1; 2005: 52.3; 2005 (later): 79.0; 2005 (latest): 97.0.
  - Personal computers (per 1,000 people): 1997: 1.9; 2000: 6.9; 2003: 11.9; 2004: 18.1; 2005: 23.5; 2005 (later): 28.0.
- Source: World Development Indicators database, September 2006.

*Italic: Source — Ukrainian authorities; and staff estimates, projections, and tables as presented in the provided content.*

### APPENDIX I: UKRAINE—FUND RELATIONS

### APPENDIX I: UKRAINE—FUND RELATIONS (As of March 31, 2008)

### I. Membership Status
- Joined 09/03/1992; Article VIII

### II. General Resources Account
- Quota: 1,372.00 SDR Million (100.00)
- Fund holdings of currency: 1,552.95 SDR Million (113.19)
- Reserve position in Fund: 0.00 SDR Million (0.00)

### III. SDR Department
- Holdings: 7.56 SDR Million (N/A %Allocation)

### IV. Outstanding Purchases and Loans
- Extended arrangements: 180.95 SDR Million (13.19 %Quota)

### V. Financial Arrangements (selected entries)
- Stand-by: Approval Date 03/29/04; Expiration Date 03/28/05; Amount Approved 411.60 SDR million; Amount Drawn 0.00 SDR Million
- EFF: Approval Date 09/04/98; Expiration Date 09/03/02; Amount Approved 1,919.95 SDR million; Amount Drawn 1,193.00 SDR Million
- Stand-by: Approval Date 08/25/97; Expiration Date 08/24/98; Amount Approved 398.92 SDR million; Amount Drawn 181.33 SDR Million

### VI. Projected Payments to Fund (Expectations Basis)
(SDR million; based on existing use of resources and present holdings of SDRs)
- 2008 Principal: 123.66
- 2008 Charges/Interest: 5.15
- 2008 Total: 128.81
- 2009 Principal: 57.28
- 2009 Charges/Interest: 1.23
- 2009 Total: 58.51

- Note: "This schedule presents all currently scheduled payments to the IMF, including repayment expectations and repayment obligations. The IMF Executive Board can extend repayment expectations (within predetermined limits) upon request by the debtor country if its external payments position is not strong enough to meet the expectations without undue hardship or risk."

### VII. Projected Payments to Fund (Obligations basis)
(SDR million; based on existing use of resources and present holdings of SDRs)
- 2008 Principal: 99.43
- 2008 Charges/Interest: 5.25
- 2008 Total: 169.84
- 2009 Principal: 57.28
- 2009 Charges/Interest: 2.20
- 2009 Total: 60.76
- 2010 Principal: 24.23
- 2010 Charges/Interest: 0.97
- 2010 Total: 62.12
- 2011 Charges/Interest: 0.87
- 2012 Total: 49.84

### VIII. Safeguards Assessments
- Safeguards assessment completed July 14, 2004, with respect to the Stand-by Arrangement approved March 29, 2004.
- Findings: NBU has made progress in strengthening safeguards, but further improvements needed, notably in financial reporting and legal structure and independence.
- Main recommendations:
  - (i) Full adoption of International Financial Reporting Standards (IFRS).
  - (ii) Detailed review of the NBU Law and other legislation that impinges on the central bank to strengthen NBU's independence.
  - (iii) Semi-annual audits by the NBU's internal audit function of the monetary data reported to the Fund.

### IX. Exchange Arrangements
- Hryvnia introduction: September 1996 at karbovanets (Krb) 100,000 to HRV 1.
- Pegging history:
  - Initially informally pegged to the dollar.
  - September 1997: formal band HRV 1.7–HRV 1.9 per U.S. dollar.
  - Since March 19, 1999: exchange rate determined by interbank market.
  - February 22, 2000: NBU confirmed intention to allow free float but intervened regularly.
  - Reclassified effective January 1, 2001 as a conventional pegged arrangement.
- Official hryvnia/U.S. dollar rate on March 31, 2008: 5.05
- Article VIII obligations: Accepted September 24, 1996 (Sections 2, 3, and 4); two remaining restrictions eliminated in May 1997. New restrictions on current international transactions introduced September 1998 and removed March 1999.

### X. Article IV Consultation (2008)
- Discussions took place in Kyiv between March 20 and April 1, 2008.
- Concluding statement of the mission posted April 16, 2008.
- IMF team: Messrs. Ford (Head), Flanagan, Moulin (all EUR); Mr. Driessen (MCM); Ms. Zakharova (FAD); Mr. Hofman (PDR); Mr. Horvath, Resident Representative. Mr. Yakusha (OED) attended.
- Meetings included: NBU Governor Stelmakh; Finance Minister Pynzenyk; Economy Minister Danylyshyn; First Deputy Chief of Staff to the President Shlapak; other senior officials; representatives of parliament; diplomatic community; financial sector; think tanks.
- Related publications:
  - Selected Issues Paper covering: (1) Two Aspects of the Ukrainian’s Business Cycle; (2) Strengthening Ukraine’s Fiscal Framework.
  - Forthcoming Working Paper on Resolving Large Contingent Fiscal Liabilities.
- Previous consultation concluded January 12, 2007; Executive Board documents made available February 5, 2007.

### XI. FSAP Participation
- Joint World Bank–IMF FSAP mission: May 10–24, 2002.
- Update mission: February 18–21, 2003.
- Financial Sector Stability Assessment (FSSA) report (IMF Country Report No. 03/340) considered May 14, 2003.
- Standards and codes assessed: Basel Core Principles for Effective Banking Supervision; Code of Good Practices on Transparency in Monetary and Financial Policies; CPSS Core Principles for Systemically Important Payment Systems; OECD Principles for Corporate Governance; Accounting and Auditing Practices; World Bank’s Principles and Guidelines for Effective Insolvency and Creditor Rights System; AML/CFT Methodology.
- Further update missions: June 11–22, 2007 and July 9–20, 2007.
- Additional assessments: Basel Core Principles for Effective Banking Supervision; IOSCO Core Principles of Securities Regulation.
- An updated FSSA expected to be considered by the Executive Board as part of the present Article IV consultation.

### XII. ROSCs and Data Modules
- Data ROSC Module conducted April 3–17, 2002; considered by the Executive Board August 5, 2003 (IMF Country Report No. 03/256).
- Fiscal Transparency Module (experimental) issued September 1999; update in April 2004 (IMF Country Report No. 04/98).

### Fund Technical Assistance Missions, 2003–08 (As of April 16, 2008)
- FAD: Modernizing the State Tax Service (February 7–21, 2006); Macro-fiscal Analysis (January 10–18, 2006); Reform of the State Customs Service (December 2006); Proposals to Reform the Tax System (October 5–18, 2005); Customs Administration (June 7–21, 2005).
- LEG: Workshop on Use of Cash Couriers and Cross-Border Operations for Money Laundering and the Financing of Terrorism (April 2007); Workshop on Effective Enforcement of Criminal Justice Measures in AML/CFT (April 2005).
- MCM: Monetary Policy Operations (March 27–April 4, 2008); Monetary policy, banking supervision, and other core central bank functions (November 5–11, 2007); Operational Preparations for Exchange Rate Flexibility (September 3–10, 2007); Monetary policy, banking supervision, and other core central bank functions (July 14–17, 2007); NBU Internal Audit and Financial Reporting; Monetary Policy Communication Strategy (September 4–12, 2006; March 6–14, 2006); Monetary Policy Operations (January 23–February 2, 2006); Operational Preparations for Exchange Rate Flexibility (December 11–21, 2005); Action Plan for Transition to Inflation Targeting (October 10–14, 2005); Foreign Exchange Markets (July 20–28, 2005); Debt Management Strategy (with ICM) (June 23–July 7, 2005); Central Bank Accounting (June 1–15, 2005); Implementing Effective AML/CFT Measures (May 11–20, 2005); Management of Foreign Exchange Risk in Transitioning to Greater Exchange Rate Flexibility (April 18–29, 2005); Dealing with Problem Banks (March 30–April 6, 2005); Inflation Targeting (November 15–19, 2004); Banking Supervision (October 25–November 12, 2004); Banking Supervision, Monetary Framework and Operations, Government Securities Market (April 13–26, 2004); Review of TA Needs (February 9–11, 2004).
- STA: Balance of Payments Statistics (June 29–July 12, 2005); Real Sector Statistics (March 21–April 1, 2005).
- ICM: Management of External Debt (May 31–June 3, 2005).

### Fund Resident Representatives and Advisors, 2003–08 (as of April 1, 2008)
- Senior Resident Representative: Mr. Franks (September 2004 – August 2007); Mr. Figliuoli (August 2001–August 2004).
- Resident Representative: Mr. Horvath (Since October 2007); Mr. Lissovolik (July 2001–January 2004).
- Advisors:
  - Advisor on Inflation Targeting to the NBU: Mr. Vavra (Since January 2006, bi-monthly visits; November 2004–November 2005).
  - Macro Policy Advisor to the Ministry of Finance: Mr. Marion (2005–06).
  - Banking Supervision Advisor at the NBU: Mr. Livesay (April 2005–October 2005).

*Source: APPENDIX I: UKRAINE—FUND RELATIONS (As of March 31, 2008).*

### APPENDIX IV: UKRAINE—STATISTICAL ISSUES

### APPENDIX IV: UKRAINE—STATISTICAL ISSUES

### Real sector statistics
- Framework and sources
  - The 1993 SNA is the general framework for compiling national accounts.
  - Classifications used are largely in accordance with international standard.
  - Source data are obtained from the extensive survey program of the State Customs Service (SCS), supplemented with data from administrative and other sources.
  - Main survey report forms have been revised to align with the 1993 SNA and new chart of accounts of enterprises.
  - Significant improvements have been introduced in the compilation and seasonal adjustment of quarterly GDP.
- Identified shortcomings and priorities
  - A STA real sector mission in March 2005 found that the lack of appropriate price indices hamper production of accurate long-term GDP volume series using the new classification of economic activities adopted since 2001.
  - There are still no proper quarterly price indices for exports and imports, although development of these indices has started.
  - The authorities agree that the methodology covering the informal economy needs to be revised and improved.
  - Further improvement needed in data collection and production environment through greater use of sample surveys, and improving data flow management and processing.
- Ongoing support
  - A STA mission is currently in the field to examine recent improvements in national accounts series having 200 as new base year and to assist as needed to further strengthen quality of the annual and quarterly accounts.

### Government finance statistics
- Progress made
  - The Ministry of Finance (MOF) and State Treasury have made considerable progress in compiling fiscal data.
  - The Ministry publishes monthly data on operations of the central and regional government within 25 days of the reference period.
  - The economic classification of transactions and the classification of outstanding debt are consistent with GFSM 1986.
  - From 2002, the functional classification has been consistent with GFSM 2001.
  - All central and local government transactions are recorded in the Treasury Single Account.
  - Starting in 2004, the authorities have provided STA with local government expenditures, with latest data reported for the period through 2006.
- Remaining issues
  - Data ROSC report highlighted that government finance statistics are available monthly, but do not provide the recommended coverage.
  - Timely publication of data from government extrabudgetary funds such as the pension and insurance funds remains an issue.
- Actions taken
  - The authorities have reported central and local government data for 1999-2006 in the GFSM 2001 format for publication in the GFS Yearbook.

### Monetary and financial statistics
- Recommendations and practices
  - The data ROSC mission recommended improving the timeliness of the analytical accounts of the central bank using the daily accounting records on monetary operations.
  - SDDS flexibility options are used for monetary data: the first for timeliness of the analytical accounts of the banking sector and the second for the timeliness of the analytical accounts of the central bank.
- Reporting and dissemination
  - The authorities use the Standardized Report Forms (SRF) for reporting monetary data to STA and EUR.
  - Data beginning from December 2001 have been converted into the SRF framework and published in IFS Supplement since September 2006, and are available online.

### External sector statistics
- Compilation and sources
  - Balance of payments statistics are compiled in broad conformity with the fifth edition of the Balance of Payments Manual and are reported quarterly to STA with a lag of about ten weeks.
  - Principal data sources are the International Transaction Reporting System (ITRS), surveys of enterprises, and administrative data.
- Improvements and planned work
  - Following data ROSC recommendations, the authorities expanded the survey on inter-enterprise arrears to include information relevant for balance of payments purposes.
  - In July 2003, the NBU lowered the reporting thresholds for banks within the ITRS, which resulted in a considerable increase in the coverage of transactions.
  - A one-off survey of migrant and related remittances is planned to be conducted in June 2008 to improve data on shuttle trade, compensation of employees, workers’ remittances, and travel.
- Remaining weaknesses and corrective work
  - Some weaknesses exist in identification and classification of financial flows stemming from capital flight.
  - The April 2008 Fund technical assistance mission noted that data on trade in goods remain considerably understated and recommended a detailed study of errors in coverage and valuation of goods.
  - Some classification errors in financial flows were identified; their correction should ensure consistency between financial flows and stocks.
  - With financial support from the World Bank, the NBU undertook a study of foreign exchange cash inflows during the past ten years and used the results to estimate the stock of foreign exchange cash outside the banking system. The data will be incorporated in the IIP for 2007.
- Coordination
  - Cooperation between government agencies has improved, but problems remain in coordinating the work of the NBU and the State Statistics Committee, particularly regarding statistics on services.
- Dissemination advances
  - The release of monthly data on official reserves, in line with the Fund’s reserve template, started in mid-2002.
  - The release of quarterly external debt, in line with the External Debt Statistics Guide (2003), started in September 2004.

### Table of Common Indicators Required for Surveillance (selected metadata and assessments)
- Dates and frequencies (examples preserved exactly as presented)
  - Exchange Rates: Date of latest observation 3/2008; Date received 4/7/2008; Frequency of data D; Frequency of reporting D; Frequency of publication D.
  - International Reserve Assets and Reserve Liabilities of the Monetary Authorities: Date of latest observation 3/2008; Date received 4/22/2008; Frequency W; Frequency of reporting W; Frequency of publication M.
  - Reserve/Base Money: Date of latest observation 2/2008; Date received 3/20/2008; Frequency W; Frequency of reporting W; Frequency of publication M.
  - Broad Money: Date of latest observation 2/2008; Date received 3/20/2008; Frequency M; Frequency of reporting M; Frequency of publication M.
  - Consumer Price Index: Date of latest observation 2/2008; Date received 4/9/2008; Frequency M; Frequency of reporting M; Frequency of publication M.
  - Revenue, Expenditure, Balance and Composition of Financing – General Government: Date of latest observation 12/31/2007; Date received 1/28/2008; Frequency M; Frequency of reporting M; Frequency of publication M.
  - External Current Account Balance: Date of latest observation Q3 2007; Date received Dec. 2007; Frequency Q; Frequency of reporting Q; Frequency of publication Q.
  - GDP/GNP: Date of latest observation Q3 2007; Date received Nov. 2007; Frequency Q; Frequency of reporting Q; Frequency of publication Q.
- Data quality assessments (as provided)
  - Footnote explanation: Assessment categories are fully observed (O), largely observed (LO), largely not observed (LNO), or not observed (NO).
  - The table entries include combinations of O, LO, LNO, NA reflecting methodological soundness and accuracy and reliability for specific indicators (as shown in the table).

### Statement by the IMF Staff Representative (June 2, 2008)
- Availability of new information
  - Since issuance of the staff report, more information about 2008 developments has become available; NBU has taken steps toward greater exchange rate flexibility and measures to give administrators of problem banks more authority. This information does not change the thrust of the staff appraisal.
- Economic developments through April/May 2008
  - Real GDP growth in the first four months of 2008: 6.2 percent year-on-year.
  - CPI inflation: the 12 month rate exceeded 30 percent in April.
  - The cumulative 12-month current account deficit is estimated to have risen to 5.4 percent of GDP in March 2008.
  - External financing developments in May: some $850 million in direct and syndicated loans and $400 million in eurobonds issued in May.
  - Eurobond spreads: since peaking in late March, spreads have come down by as much as 50 basis points.
  - These developments suggest risks could be tilting towards the high-growth and high-imbalances scenario laid out in the staff report.
- Fiscal position and pressures
  - The general government budget recorded a surplus through late-May.
  - Expenditure increases: 50 percent during the first quarter of the year.
  - A recent constitutional court ruling overturned the government’s latest strategy for avoiding unfunded social mandates (amounting to some 9 percent of GDP), placing additional pressure on the government; new legislation is in process to contain this risk.
- Exchange rate policy and NBU actions
  - The NBU allowed the exchange rate to fluctuate, and appreciate, outside the previous narrow de facto band.
  - In late May, it revalued the official exchange rate by 4 percent and resumed intervening to bring market rates broadly into line with the new official rate (but without announcing new bands).
  - The NBU supervisory council initially objected; the head later indicated a wider exchange rate band may soon be sanctioned and a new mechanism would be introduced to keep the official exchange rate in line with market rates.
  - These changes would be in line with staff advice.
  - Needed supporting actions remain as enumerated in the staff report, including public and decisive government support for regime transition, clear NBU communication about policies, and cancellation of the fx tax.

*IMF Staff Report — APPENDIX IV: UKRAINE—STATISTICAL ISSUES (as provided in the source content)*

### 5.      The NBU has amended regulations governing the financial administration of problem

### _cr08227 - 5.      The NBU has amended regulations governing the financial administration of problem

### NBU regulatory amendment
- Administrators now have broader rights to seek buyers for banks failing to meet minimum liquidity requirements.
- This change is in line with advice in the FSAP update.

### Economic context and performance (2007–2008)
- Real GDP growth in 2007: 7.6 percent.
- Real GDP growth reached 7.6 percent, on par with the average since 2000.
- Real GDP growth in table: 9.6 (2003); 12.1 (2004); 2.7 (2005); 7.3 (2006); 7.6 (2007); 5.6 (2008); 4.2 (2009).
- Nominal GDP (billions of hryvnias): 267 (2003); 345 (2004); 441 (2005); 544 (2006); 713 (2007); 939 (2008); 1139 (2009).
- Domestic demand (contribution) in table: 11.4 (2003); 9.1 (2004); 13.2 (2005); 13.1 (2006); 16.1 (2007); 11.6 (2008); 6.9 (2009).
- Net exports (contribution) in table: -1.8 (2003); 3.0 (2004); -10.5 (2005); -5.8 (2006); -8.5 (2007); -6.0 (2008); -2.7 (2009).
- Output gap in table: -1.0 (2003); 3.3 (2004); -0.6 (2005); -0.3 (2006); 1.4 (2007); 1.1 (2008); -0.4 (2009).
- Unemployment rate (ILO definition; percent) entries: 9.1 (2005?); 8.6 (2006?); 7.2; 6.8; 6.4; 5.5; 5.7 (table structure preserved as in source).

### Inflation, wages, and monetary conditions
- CPI inflation rose to over 30 percent by end-April 2008 (text).
- Core inflation and nominal wage growth have also risen; inflation expectations have drifted up.
- Consumer prices (period average) in table: 5.2; 9.0; 13.5; 9.1; 12.8; 23.2; 16.4 (years as in table).
- Consumer prices (end of period) in table: 8.2; 12.3; 10.3; 11.6; 16.6; 18.5; 13.2.
- Core inflation (end of period) 2/ in table: 8.7; 12.0; 13.8; 7.2; 13.4; 17.3; 12.3.
- Nominal monthly wages (average) in table: 23.0; 27.5; 36.7; 29.2; 29.7; 39.3; 27.0.
- Real monthly wages (average) in table: 16.9; 17.0; 20.5; 18.6; 15.0; 13.1; 9.1.
- Monetary policy actions: NBU stepped up sterilization, imposed new reserve requirements on banks’ foreign borrowing beginning in late 2007, instituted new prudential measures in early 2008, and since March 2008 allowed the exchange rate to appreciate outside the previous de facto Hrv/$ 5.00-5.06 band.
- Excess banking system liquidity fell considerably; interest rates rose sharply, notably on the interbank market.
- Lending in foreign currency slowed significantly, but real interest rates remained negative and overall credit growth remained very high—76 percent year-on-year in March (text).
- Interbank overnight rate (annual average, percent) in table: 6.8; 5.7; 3.5; 2.9; 1.5; ...; ...

### External sector, reserves, and financing risks
- Current account balance (percent of GDP) in table: 5.8; 10.6; 2.9; -1.5; -4.2; -7.1; -9.8.
- Foreign direct investment (percent of GDP) in table: 2.8; 2.6; 8.7; 5.3; 6.5; 6.8; 6.5.
- Gross reserves (end of period, billions of U.S. dollars) in table: 6.9; 9.5; 19.4; 22.3; 32.5; 36.5; 35.6.
- Reserves in months of next year’s imports: 2.3; 2.6; 4.4; 3.7; 4.2; 4.1; 3.7.
- Net imports of energy (billions of U.S. dollars) in table: 5.1; 6.0; 6.1; 8.1; 10.0; 15.3; 18.1.
- Goods terms of trade (percent change) in table: 8.7; 9.6; 6.2; -0.2; 5.2; 1.7; -5.1.
- Goods and services terms of trade (percent change) in table: 7.3; 7.8; 4.9; 1.5; 4.3; 1.4; -4.1.
- Capital inflows, including FDI, remain strong, but private external debt and debt rollover have risen sharply (text).
- Some external debt may be misrecorded (held by Ukrainians) and some offset by unrecorded foreign exchange assets in Ukraine (text).
- International reserves remain at comfortable levels (text).

### Financial sector vulnerabilities and developments
- Banks’ credit risks increased, reflecting very high lending growth, including in foreign exchange to unhedged borrowers (text).
- Surging liabilities to non-residents point to growing liquidity risks; presence of foreign banks contributed to this (text).
- With house prices high relative to incomes, credit risks on mortgages have grown (text).
- Effects of international financial market turbulence began to recede by late-March 2008: eurobond spreads fell and access to longer term external financing resumed (text).
- Progress reported on FSAP recommendations implementation: measures to identify bank owners, raise minimum capital requirements, improve risk management practices, and curb banks’ foreign borrowing (text).
- Directors encouraged further measures:
  - Fully develop consolidated supervision.
  - Improve banks’ stress testing and risk management capabilities.
  - Intensify on-site examinations.
  - Impose stronger prudential requirements on banks with deteriorating liquidity positions.

### Fiscal stance and policy recommendations
- Nominal spending has risen by over 30 percent a year since 2003 (text).
- Public debt declined to just over 10 percent of GDP (text).
- Public finance (percent of GDP) table highlights:
  - Cash balance: -0.9; -4.4; -2.3; -1.4; -2.0; -1.2; -1.5.
  - Revenue 4/: 38.0; 37.1; 41.8; 43.7; 42.3; 43.9; 43.7.
  - Expenditure (cash basis): 38.9; 41.5; 44.1; 45.1; 44.3; 45.1; 45.2.
  - Primary balance (cash basis): 0.1; -3.5; -1.5; -0.7; -1.5; -0.8; -1.2.
  - Cyclically adjusted balance 5/: -0.4; -6.0; -2.0; -1.2; -2.7; -1.7; -1.4.
  - Privatization proceeds: 1.1; 3.1; 5.0; 0.4; 0.6; 1.1; 0.8.
  - Net domestic financing: -1.2; -0.1; -3.3; -0.4; 0.3; -0.1; 0.4.
  - Net external financing: 1.0; 1.4; 0.6; 1.3; 1.0; 0.1; 0.3.
  - Public debt 6/: 30.6; 25.5; 18.7; 15.7; 12.5; 9.5; 8.4.
  - Of which: external debt: 21.6; 19.2; 14.1; 12.5; 9.8; 7.2; 6.2.
- Directors welcomed the authorities’ intention to tighten fiscal policy and encouraged aiming for a near-balanced budget—or tighter—in 2008 (text).
- Specific fiscal policy recommendations by Directors:
  - Reign in growth in social transfers.
  - Scale back increases in minimum wages and public sector wages.
  - Spread further restitutions of depreciated Soviet-era bank deposits over a number of years.
  - Strengthen administration of the value added tax and preserve the VAT.
  - Ensure tax cuts are fully offset with spending cuts or tax base broadening.
  - Fully pass through gas prices to final consumers, with vulnerable groups protected by better-targeted social programs.
  - Strengthen the fiscal framework: broaden fiscal coverage and adopt a medium-term fiscal framework.

### Exchange rate, monetary strategy, and institutional reforms
- Directors underscored importance of a tight monetary stance to fight inflation (text).
- Directors generally considered shift to a more flexible exchange rate would enhance monetary policy effectiveness and welcomed 2008 monetary guidelines calling for a gradual transition to a flexible exchange rate and ultimately to inflation targeting (text).
- Suggested institutional and policy actions to support inflation targeting:
  - Government support in the form of a clear inflation-targeting mandate and operational independence for the monetary authorities.
  - Abolish the tax on foreign exchange transactions.
  - Securitize government debt to the National Bank of Ukraine.
  - Issue more public debt in domestic currency.
  - Further liberalize domestic prices to provide monetary policy maximum leverage over inflation.
- Directors noted the need to develop foreign exchange and money markets and to strengthen the interest rate channel of monetary policy transmission (text).

### Structural reforms and productivity
- Progress on structural reforms noted (WTO accession achieved).
- Remaining weaknesses: energy efficiency, internal price liberalization, business environment (especially tax administration), and lack of a market for agricultural land (text).
- Directors suggested productivity-enhancing structural reforms to boost growth and restrain inflation over the medium term.

*Public Information Notice (PIN) No. 08/68 — IMF Executive Board Concludes 2008 Article IV Consultation with Ukraine (June 12, 2008).*

### 11.4 percent to a total of over USD 41 billion. At the same time direct investments of

### _cr08227 - 11.4 percent to a total of over USD 41 billion. At the same time direct investments of

### Inflation: diagnosis and drivers
- Inflation acceleration is assessed as a major threat to stability, growth, and social standards.
- Frequently mentioned culprits:
  - continuing global commodity price boom affecting both export and import prices in a very open economy;
  - substantial increases in prices for imported energy;
  - growth in social transfers and budgetary wages, which exceed productivity growth;
  - structural rigidities and weak enforcement of competition policy that hamper supply response;
  - a bad year for Ukraine’s agriculture in 2007.
- Other contributing factors noted domestically:
  - past attempts by previous governments to slow price increases during three national elections in a row;
  - food occupies a much higher share in the CPI basket than in neighboring countries;
  - the relatively stable nominal exchange rate to the falling US dollar ceased to be helpful.
- Staff analysis: core inflation, aggregate demand pressures, and worsening inflationary expectations (surveys by the NBU and private sector) confirm the staff’s diagnosis.

### Policy response: macroeconomic tightening and anti-inflation agenda
- Authorities and staff agree on the importance of taming aggregate demand to reduce demand pressures and prevent entrenched inflationary expectations.
- Joint NBU-Government anti-inflationary plan reflects Fund advice, emphasizing a soft landing by carefully slowing aggregate demand through tightening of both fiscal and monetary policy, plus market interventions from government commodity reserves and supply-side measures.
- Monetary and prudential measures implemented:
  - refinancing rates increased from 10.1 to 15.2 percent (since the beginning of 2008);
  - average credit rates increased to over 17 percent;
  - more stringent requirements for capital adequacy;
  - increased reserve requirements;
  - better provisioning against possible losses;
  - tightened requirements for assessing borrowers’ ability to repay credits and overall credit standards, including collateral valuations.
- Effects:
  - mortgage financing especially affected; previously explosive housing price growth has slowed.
  - credit growth slowed: at beginning of year credit grew by about 4 percent a month, in April growth slowed to 2.9 percent, and in May (as of May 26) it was 1.5 percent.
  - base money had increased by 1.9 percent on May 26 compared with a 7.5 percent increase during the same period of 2007.

### Exchange rate policy and NBU market operations
- Most important recent policy change: gradual withdrawal of the NBU from the foreign exchange market, allowing the interbank nominal exchange rate to the US dollar to appreciate by over 10 percent in two months since mid March.
- Cash and offshore hryvnia markets showed even stronger appreciation at some point.
- Interbank exchange rate fluctuating at around 6-8 percent above its level at the beginning of the year.
- NBU adjusted by about 4 percent (so far) the official rate used for accounting purposes and for a small volume of NBU transactions with the government.
- Parliamentary controversy when the exchange rate moved outside the indicative band approved by the parliament for 2008, but NBU continued to exercise monetary policy authority independently, supported by the government.
- NBU stance on exchange rate:
  - not committed to any particular exchange rate level;
  - may smooth only temporary fluctuations;
  - will not resist strengthening or weakening if fundamental trends change substantially;
  - has not ruled out the possibility of some weakening of the exchange rate if terms of trade change in line with staff expectations.
- Increased exchange rate flexibility is expected to:
  - eventually reduce some financial risks;
  - contribute to lower inflation;
  - likely strengthen trends toward de-dollarization.
- The de facto exchange rate regime has been more closely aligned to the de-jure managed float.

### Fiscal stance and budget execution
- Government limited budgetary spending to some extent despite substantial growth in revenues.
- This year’s budget executed with small surpluses of up to 0.5 percent of GDP so far.
- Cutting planned social spending increases was not feasible due to court rulings.

### Financial sector reforms and prudential strengthening
- FSSA and FSAP:
  - Ukraine implements practically all FSAP recommendations, though authorities disagree with emphasis in the FSSA on rising risks.
  - Dollarization trends highlighted in FSSA; authorities note de-dollarization has started.
- Prudential and regulatory measures:
  - credit classification criteria tightened, increasing required provisioning;
  - regulatory capital adequacy calculated under more stringent criteria, including foreign exchange risks and longer term liquidity risks;
  - obligatory reserves introduced against loans from abroad;
  - increased provisioning against loans extended in foreign currency;
  - mismatches in over 1-year maturity of assets/liabilities decreased by 20 percent in the last four months due to new prudential requirements;
  - share of long-term deposits increased from 24 to 27 percent this year;
  - financial sector corporate governance improved: all banks are supposed to be open joint-stock companies with regularly reported and published lists of owners;
  - minimal statutory banking capital doubled to Euro 10 mln, twice the EU norm.
- Role of foreign banks:
  - foreign banks increased their presence to just under 50 percent in regulatory capital;
  - foreign banks generated over 62 percent of the total growth in consumer loans so far this year.
- NBU monitoring and readiness:
  - all foreign loans are reported and registered in Ukraine;
  - NBU carefully monitors external liabilities, especially short-term, and is ready to implement measures if risks materialize.

### Structural reforms, trade policy, and WTO accession
- Reforms advanced in areas not requiring parliamentary approval:
  - modernization of customs and VAT administration with electronic declarations and greater automation;
  - VAT arrears reduced substantially;
  - simplification of regulatory regime and accounting requirements;
  - public auctions for access to non-agricultural land and for exploration of natural resources;
  - privatization procedures organized in public auction format with price offered as exclusive criterion.
- Natural gas market:
  - budgetary risks from imperfections addressed;
  - financial situation of Naftogaz of Ukraine improved.
- WTO accession:
  - Ukraine officially joined the WTO on May 16 with parliamentary support of 411 out of 450 votes.
  - WTO membership expected to accelerate trade and increase competition on domestic markets, contributing to lower production costs.
  - In line with WTO obligations, certain import duties have been substantially reduced recently.
- Legislative agenda:
  - after approving new law on the Cabinet of Ministers, parliament started considering a new labor code, a customs code, and other economic reform legislation; anticipated modernization of banking and corporate legislation.

### Key statistics and numeric indicators (preserved exactly)
- total direct investments of Ukrainian companies abroad: USD 6.1 billion.
- base money increase on May 26: 1.9 percent (compared with 7.5 percent during same period of 2007).
- NBU actual refinancing rate: increased from 10.1 to 15.2 percent.
- average credit rates: over 17 percent.
- banks’ obligatory reserves increased from HRV 9.7 billion to over HRV 11 billion in January-April alone.
- credit growth rates:
  - beginning of the year: about 4 percent a month;
  - April: 2.9 percent;
  - May (as of May 26): 1.5 percent.
- consumer loan growth peaked at over 100 percent in 2006-2007.
- mismatches in over 1-year maturity of assets/liabilities decreased by 20 percent in the last four months.
- share of long-term deposits increased from 24 to 27 percent.
- minimal statutory banking capital: Euro 10 mln (doubled to this level; twice the EU norm).
- foreign banks’ share in regulatory capital: just under 50 percent.
- foreign banks generated over 62 percent of the total growth in consumer loans so far this year.
- interbank nominal exchange rate to the US dollar appreciated by over 10 percent in two months since mid March.
- interbank exchange rate fluctuating at around 6-8 percent above its level at the beginning of the year.
- NBU adjusted the official rate used for accounting purposes by about 4 percent (so far).
- budgetary execution: small surpluses of up to 0.5 percent of GDP so far.
- parliamentary support for WTO accession: 411 out of 450 votes.
- Ukraine joined the WTO on May 16.

*Source: IMF country report content provided in the supplied PDF excerpt.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2008/_cr08227.pdf_