The Case for Supporting Ukrainian Economic Reforms, Remarks by David Lipton, IMF First Deputy Managing Director, delivered at Peterson Institute, April 7, 2015
IMF News, April 7, 2015
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- Published: April 7, 2015
Ukraine — The Past: diagnosis and context
- Ukraine’s post-independence trajectory marked by “lost opportunities,” with economic mismanagement, corruption, oligarchy, and half-hearted reforms obstructing growth.
- Key historical and comparative points:
- Independence in 1991; per capita income at independence was higher than Poland’s, but by 2013 Ukraine’s standard of living had fallen “more than 60 percent behind Poland.”
- Since 1991, Ukraine entered into eight IMF programs, “none of which achieved the objective of prompting sustained reform.”
- Macroeconomic deterioration before the 2014–15 crisis:
- After the 2009/10 program ended unsuccessfully, wages and costs rose while productivity did not, eroding competitiveness; GDP stopped rising and exports stagnated.
- In early 2013, warnings were given that inaction risked crisis.
- Crisis drivers and 2014 outcomes:
- Loss of Crimea and conflict in Donbass caused sharp output declines; industrial production, construction, retail sales, and household income fell.
- Fourth quarter of 2014: “GDP contracted 14.8 percent from a year earlier.”
- Unemployment approaching double digits.
- Banking system stress: “deposits fell by 28 percent by end March of this year” and “nonperforming loans soared to nearly 20 percent of all loans at the end of 2014.”
- Hryvnia depreciation: “lost two-thirds of its value in the past 15 months.”
- Inflation “spiked above 40 percent.”
- Energy sector fiscal drain: energy subsidies and Naftogaz support “equal to more than 7 percent of GDP.”
Ukraine — The Present: IMF program, financing, and stabilization measures
- IMF support and program framing:
- IMF approved “$17.5 billion of financing to Ukraine as part of a four-year program under our Extended Fund Facility.”
- Program goals: “to stabilize Ukraine's deeply destabilized finances; to restore growth; and to support the long-overdue modernization.”
- Financing need and external support:
- Ukraine’s external financing needs estimated at “about $40 billion over the next four years.”
- This sum equals “nearly one-third of estimated 2014 GDP.”
- Most financing is “already pledged by the international community,” with the remainder to be addressed via a debt operation under discussion.
- Reserve targets and sequencing:
- Program aims to “triple Ukraine’s official reserves to about $18 billion at the end of this year from just $5.6 billion before agreement was reached with the Fund.”
- Reserves projected to reach “$35 billion by end-2018—slightly more than 100 percent of the Fund’s reserve adequacy metric.”
- Reserve import cover likely to reach “three months by June compared with less than one month’s cover before the IMF agreement,” aided by front-loaded Fund disbursements and bilateral loans and swaps.
- Stabilization policy mix and outcomes sought:
- Restore stability to the foreign exchange market through “appropriately tight monetary targets and temporary administrative measures”; recent stabilization and reversal of reserve drain noted.
- Inflation objective: “help inflation recede toward single digits by end 2016” once one-off effects fade.
- Debt sustainability and restructuring:
- “Public and publicly guaranteed debt is projected to peak at 94 percent of GDP in 2015.”
- Restructuring aims to “secure $15 billion in additional financing over 2015-18 to bring debt below 71 percent of GDP by 2020,” and to avoid repayment bunching post-program.
Ukraine — The Future: restoring growth and structural reform agenda
- Core growth challenges and policy directions:
- Restore competitiveness undermined by prior exchange rate overvaluation — achieved through exchange rate depreciation and flexibility at the new level.
- Fiscal and quasi-fiscal restraint to reduce crowding out, including addressing Naftogaz’s quasi-fiscal deficit.
- Energy sector reforms:
- Significant household gas price and heating tariff increases implemented.
- Prior gas prices “stood at or below 20 percent of cost recovery”; the “remaining 80 percent of costs has added to the broad public sector deficit.”
- Measures to protect vulnerable populations: “new and strengthened targeted programs” being put in place.
- Banking sector repair:
- Actions include resolving insolvent banks via recapitalization and liquidation; recapitalization needs included in program architecture.
- Future requirement that large financial institutions “are kept well capitalized by their owners” to reopen sustainable credit flows.
- Broader structural reforms to attract investment and sustain growth:
- Address banking ownership structures that “too often funnels excessive lending to insiders.”
- Strengthen regulatory and supervisory frameworks to align with international best practices.
- Improve business climate via deregulation, tax administration reform, transparency, and state-owned enterprise reforms.
- Specific Naftogaz measures: “an independent audit of Naftogaz’s receivables, and a restructuring of the company to separate its transmission and distribution arms.”
- Anti-corruption priorities: strengthened anti-corruption legislation, measures to enhance judicial effectiveness, and steps to curb oligarchic influence.
- Social protection and equity measures:
- “Total spending on social assistance programs will reach 4.1 percent of GDP this year, an increase of 30 percent from 2014.”
- Energy bill assistance “will in fact quadruple from 6 billion hryvnia in 2014 to 24 billion hryvnia in 2015.”
- “Unemployment benefits will rise 15 percent.”
- Risks and contingency considerations:
- Principal downside risk: renewed intensification of the conflict in the East could undermine recovery and program sustainability.
- Political risk: maintaining public support for difficult reforms, particularly among those hardest hit by the crisis.
- IMF stance and conditionality summary:
- IMF support contingent on Ukraine pursuing the reform path and demonstrating results; the Fund’s role is “to support members in crisis provided they are trying to put themselves right.”
- Program combines stabilization, debt-restructuring efforts, bank-sector repair, energy pricing reform with targeted social protection, and broad governance and structural reforms.
Source: The Case for Supporting Ukrainian Economic Reforms, Remarks by David Lipton, IMF First Deputy Managing Director, delivered at Peterson Institute, April 7, 2015