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. Last Updated: 07/27/2016

Ukraine, The Crouching Tiger

Ukrainian President Leonid Kuchma has called 2001 the "year of Russia," but 2002 may belong to Ukraine. Sam Vaknin of United Press International reports from Skopje, Macedonia, that the Ukrainian economy is poised to pounce.

Reading foreign media reports, one would think that Ukraine's main products are grotesquely corrupt politicians, gray-hued, drab and polluted cities, and mysteriously deceased investigative journalists. Another one was found dead in Odessa on New Year's Eve.

Both the prosecutor general and the Ukrainian Parliamentary Committee for Fighting Organized Crime and Corruption have accused the entire Cabinet of Ministers of collusion in shady dealings with Kazakhoil, the Kazakh national oil monopoly. The December 2001 Lehman Brothers Eurasia Group Stability Index warned against a deterioration in Ukraine's social stability, owing to fiercely resisted austerity measures.

Things are not auspicious on the international front either. During the recent Balkan hostilities, Ukraine supplied Macedonia with attack helicopters and other weaponry over the strident objections of the U.S. State Department. Its strategy of an ever-closer union with Russia and China was in ruins following the sudden shift in Russian President Vladimir Putin's geopolitical predilections after the Sept. 11 attacks. And to spite the European Union, which forced Poland to impose strict controls on its porous border with Ukraine, the Kiev-based UNIAN news agency jubilantly announced Jan. 4 that "Kyrgyz citizens, like the citizens of Azerbaijan, Armenia, Kazakhstan, Tajikistan and Uzbekistan, may enter, leave and pass through Ukraine without visas."

Its parliament having failed to pass a government-sponsored law against the unlicensed production of CD ROMs, Ukraine was subjected on Jan. 2 to U.S.-imposed trade sanctions -- estimated to cost it $500 million per year. The employees of Ukraine's largest CD maker, Rostock Records, demonstrated opposite the U.S. Embassy against the sanctions, denouncing them as "economic terrorism." The International Federation of Phonographic Industry countered by saying that "Ukraine is the largest exporter of pirated CDs to Europe, with tens of millions of high quality illegal copies shipped each year to markets throughout Europe and as far away as South America." At any rate, anti-American sentiments are running higher than usual.

Ukrainian discontent is further exacerbated by the American threat to slap tariffs on steel imports despite a last minute agreement signed last year with the EU and other major steel manufacturing countries to curb worldwide production. Ukraine has agreed to cut its output by 11 million tons annually -- out of a total world production reduction of 97.5 million tons. Depressed prices for gallium -- a by-product of alumina production used mainly in the recession-struck mobile phones industry -- have gravely affected Ukraine's only alumina producer, Mykolayevsky Hlynozyomny Zavod, which has just quintupled its gallium production capacity to 10 tons.

Vladimir Filonov / MT

Although only 5.3 percent of Ukrainians are registered as unemployed, hidden unemployment is rampant and Ukraine's GDP has dropped by 60 percent since 1991.

To the East

Ukraine is optimally located between Central Europe and Russia. It is the largest polity in East Europe and the second largest country in Europe. It is rich in natural endowments, though hopelessly polluted -- by Chernobyl for a start -- and deforested.

In the former Soviet Union, it provided 25 percent of all agricultural produce. The Soviet mining and oil industries relied on Ukrainian heavy industry for their equipment. The literacy rate in Ukraine is near 100 percent, and many Ukrainians are polyglot.

Yet, these Ukrainian riches were squandered in the decade following independence. Dependence on energy and a reform effort thwarted by entrenched communist-era stalwarts led to a 60 percent drop in gross domestic product compared with 1991 -- the year of Ukraine's independence. Frenetic money printing resulted in hyperinflation in 1993. Inflation has still not been subdued and has topped 26 percent as late as 2000. More than 50 percent of the population lives below the official poverty line at near-starvation levels.

Though only 5.3 percent are registered as unemployed, underemployment and hidden unemployment are rampant. Mercurial and default-prone Russia is still Ukraine's main trade partner, accounting for about 30 percent of its international trade. Each of Ukraine's 49 million citizens owes $200 to foreign creditors, which is the equivalent of 30 percent of GDP per capita.

Public debt has doubled to 50 percent of GDP in the four years to 2000.

Worse still, Ukraine is increasingly used as a drug smuggling route and drugs growing area for the Commonwealth of Independent States. Synthetic drugs are manufactured in Ukraine and smuggled to the countries of Western Europe.

Ukraine is a major target for Russian investors, especially from the energy sector. Putin appointed political heavyweight Victor Chernomyrdin -- a former prime minister and, more importantly, a former chairman of the energy behemoth Gazprom -- ambassador to Kiev. Ukrainians are not against Russian investment -- but they are averse to the political strings that come attached to it. They also resent the bargain basement prices at which their most valued assets are "privatized" to these old-new "foreign" investors.

Inevitably, they ask themselves "cui bono," or who benefits personally from these questionable transactions. The answer is not too hard to guess, but guessing has proven to be a dangerous occupation. At least one muckraking journalist has been -- literally -- beheaded and a senior politician jailed for trying to reform the energy sector.

Crouching Tiger

Inevitably, Ukraine is socially and politically strained. Its western parts are fiercely nationalistic and West-oriented. Its eastern parts lean more toward Russia and are Soviet-nostalgic. But this apparent schism is no bad thing. It provides Ukrainians with a secure foothold in both worlds -- and no one seriously considers secession.

Unnoticed by many, Ukraine is undergoing a seismic shift that may result in an economic revival of Chinese proportions. When Viktor Yushchenko, the popular prime minister and darling of the West, was brutally ousted in May last year by the authoritarian President Kuchma -- himself hailed as a daring reformer by the International Monetary Fund when elected in 1994 -- everyone predicted a calamity. Yet, Yushchenko has since moved to the center in what appears to be an implicit reconciliation with the president. His replacement, Anatoly Kinakh, surprised everyone by proving to be an efficient and modernizing technocrat. Ukrainian bonds returned to investors more than 60 percent net in 2001, making them the best emerging-markets investment by far. Its capital markets are gradually being internationalized. The much-maligned Kuchma has just introduced a sweeping anti-money laundering decree, later to become law. Ukraine, since its 1998-2000 series of de facto defaults following the financial meltdown in Russia, is now a model debtor.

In August 2000, it even made an early debt repayment of $100 million to the IMF.

Possibly emboldened by his 1999 re-election, Kuchma seems to be making real efforts to streamline the government, which anyhow consumes a mere 18 percent of gross domestic product. He has also tried to cut red tape, consolidate the government's fiscal stance -- Ukraine had small budget deficits, excluding privatization receipts, in 1999-2001 -- become a WTO member and create a legal environment conducive to private enterprise and entrepreneurship. A new land code -- passed by a surprising ad hoc parliamentary alliance and providing for limited private ownership of land -- took effect on Jan. 2 this year. Payment discipline in the critical energy sector was enforced, the agriculture sector was revamped and noncash revenue offsets and cronyist tax exemptions were eliminated. Government arrears -- including pensions -- were substantially reduced, though new arrears have accumulated this year. A privatization law was finally introduced and municipal finance was rationalized.

The government's contractionary fiscal rectitude -- a new budget code was enacted and tax collection improved -- was balanced by the expansionary monetary policy of the central bank, or NBU. The bank hopes to increase its dangerously dilapidated foreign-exchange reserves of about $2.4 billion and spur growth in the real sector.

Rising demand for money and the propitious existence of a thriving informal -- cash -- economy prevented the resurgence of inflationary pressures, though inflation picked up in December 2001, forcing the NBU to tighten this year; it disputes the government's official figure of 6.1 percent inflation for 2001.

In 2000, the economy grew for the first time, by 6 percent. Growth was export driven and industrial output increased by 13 percent. The global recession has hurt Ukraine's export prospects, but even so, it is poised to have grown by 4 to 5 percent in 2001. It is forecast to continue to grow by 2 to 4 percent each year in 2002-03. With a labor cost of 30 cents per hour, it attracts the interest of manufacturers in the United States, Central Europe and Russia. Strong import growth may swing it back to a current account deficit -- currently it is in a surplus of about 5 percent of GDP, as it has been in the previous two years. Fiscal shenanigans ahead of the March 2002 elections, and the horse trading that will inevitably follow, may ratchet up the predicted inflation rate of 9 to 12 percent, but the appreciation of the hryvna is set to continue.

The economy is surprisingly modern. Only 24 percent of the workforce is employed in agriculture, and they produce a mere 12 percent of GDP. More than double that is produced by industry -- 26 percent of GDP -- and a whopping 62 percent of GDP is generated in services, in which only 44 percent of the labor force is employed.

Stable Outlook

In December 2001, S&P upgraded Ukraine's currency-risk rating -- both foreign and domestic -- to a B with a stable long-term outlook. On the pro side, S&P cited financial stability, partly the result of a rationalized and rescheduled foreign-debt structure. On the con side, it cited the usual litany of corruption, weak legislature, and problems with privatization, structural reform and malignant oligarchs. These flaws being noted, it did upgrade Ukraine's rating -- as did Fitch, Moody's and Japan's Rating and Investment Information Agency. The price of Ukraine's mainly dollar-denominated Eurobonds appreciated dramatically on institutional buying immediately following the announcement.

Ukraine's image as bereft of foreign direct investment is false. Moreover, about 80 percent of all FDI in Ukraine is Western, not Russian. U.S. investors compete with Russian-cum-"Cypriot" investors, each holding 17 percent of the total stock of FDI, or about $4.5 billion.

Moreover, Ukraine is now in good standing with the IMF after a difficult year in which the IMF virtually suspended all communication with Ukraine due to falsified data provided by the NBU. It signed in 1998 a $2.6 billion arrangement, of which $1.6 billion has been used. Another tranche of about $380 million was approved this past September. The IMF singled out the banking, energy, and agriculture sectors as in need of continued, pervasive, reforms.

The World Bank has committed close to $3 billion and disbursed $2.2 billion to projects in Ukraine since 1992, mostly in the energy, mining, agriculture, finance, and private sectors. The new Country Assistance Strategy for Ukraine 2001-2003 is unusual in that it seeks to circumvent the hopelessly venal and discredited administration and work directly with the public, business, and nongovernmental organizations toward building a civil society and its attendant institutions. "The strategy seeks to move Ukraine closer to the EU standards, fostering environmentally-sustainable development," says the bank. Though it hastens to emphasize the success the government had in implementing its reforms.

Dmitry Gavrish / for MT

Despite a near 100 percent literacy rate, more than half of the population lives below the poverty line.

As of June 2001, the European Bank for Reconstruction and Development, which has a mixed track record in the country, has approved 45 projects in Ukraine, 34 of which are in the private sector and worth 1.2 billion euros ($1.1 billion). This excludes the construction of a highly controversial and politically inspired nuclear power plant.

Ukraine has gone so low in the world that its fortunes can only improve. It is poised for a modest economic comeback as its mediating geographic position between center and east comes into play with EU enlargement. Kuchma is likely to be eased out by the very oligarchs he nurtured. They now constitute an element in a broad based coalition for reform. Having sated their appetite for loot, they now seek respectability and access to capital markets and credits in the West. They want a functioning country and a larger cake. Kuchma is a figurehead of a disfigured past. A Putin-style robotic reformer is likely to succeed him. When it happens, Ukraine may yet become the region's first economic tiger.