After it approved a $5 billion aid package for Ukraine on June 9, the International Monetary Fund (IMF) also published an in-depth report on the financial situation in the country. It isn’t an optimistic read. According to the IMF, Ukraine’s lack of reforms endangers its economy.
Moreover, the COVID-19 pandemic has refocused government policies on containment and stabilization, significantly worsening the outlook for anti-corruption reforms, the IMF’s executive board wrote.
“Uncertainty is large,” the report stated.
The report emphasizes the new reality for Ukraine: The country needs aid more than ever and will receive it, but will be less capable of carrying out the reforms previously required for financial assistance.
COVID-19 shock
The COVID-19 pandemic will bear heavily on the Ukrainian economy in 2020, according to the IMF.
The economy is projected to contract by 8.2% over the year, to roughly $150 billion, amid a very weak external environment, supply-side disruptions and a slump in domestic demand.
Efforts to contain the pandemic have severely affected the domestic economy, with the manufacturing, retail trade and transportation sectors hit particularly hard. While the IMF anticipates a recovery starting in late 2020, it will be tempered by the limited fiscal space and weakened balance sheets of households, businesses and banks.
However, a possible second outbreak may further delay the recovery, while inflicting greater long-term damage to economic fundamentals.
The pace of economic growth is projected to pick up only gradually and reach around 4% in the years ahead as some further progress is made in implementing structural reforms.
The IMF does not expect output in Ukraine to reach its pre-crisis levels until 2023.
Inflation is also expected to increase during the year. The IMF predicts that adverse supply shocks due to disruptions in production, trade and transport systems, along with the depreciation of the exchange rate, will increase inflation to about 7.5% at the end of 2020.
Both imports and exports are expected to fall significantly. But exports will decrease somewhat less, as they include food staples such as grains, whose production and demand are less affected.
Domestic demand will fall by 8.6% this year and then increase by 2.7% in 2021 and 4.3% in 2022. Net exports are expected to fall by 1.6% in 2021 and 1.3% in 2022.
According to the IMF, remittances will also decline by up to 25 percent as Ukrainian workers abroad are laid off.
The unemployment rate in the country will fluctuate around 12%, with 12.6% in 2020, 12% in 2021 and 11.5% in 2022.
Ukraine’s gross international reserves are projected to fall. The country could maintain its reserves at about $19 billion by the end of 2020. They could return to $23.4 billion in 2021, and $26.5 billion in 2022.
The IMF expects Ukraine’s budget to take a hard hit, with a sharp decline in revenues and large emergency expenditures required to address the crisis.
Timely aid
The IMF disbursed $2.1 billion on June 12, and the remaining $2.9 billion will be allocated in three tranches, provided that Ukraine’s government moves forward with anti-corruption measures.
The aid arrangement focuses on mitigating the economic impact of the COVID-19 crisis, ensuring continued central bank independence and safeguarding financial stability.
In the report, Kristalina Georgieva, managing director and chair of the IMF, wrote that, while fiscal policies under the program will initially be directed at addressing the impact of the crisis, it will need to be tightened as the recovery sets in.
“Full and timely implementation of policies under the fund-supported program will be critical to mitigate economic risks and lay the ground for stabilization and recovery,” she wrote.
Lack of reforms
However, the IMF report remained cautious.
Previous aid programs tended to be successful in restoring or achieving macroeconomic stability, and they helped the Ukrainian authorities to successfully navigate very difficult times.
Overall, the IMF assessed that the progress made with the National Bank of Ukraine had “transformed (it) into a modern central bank with an inflation-targeting regime and a flexible exchange rate.” The IMF praised the resilience of the financial sector, said governance had improved and noted that certain steps were taken to improve the judicial system.
On the other hand, progress on structural reforms was generally slow and incomplete, which contributed to the persistence of issues that forced Ukraine to repeatedly request IMF support.
The progress made remains vulnerable to setbacks, the IMF wrote.
Vested interests are very well organized, with influence over parliamentarians, policymakers, and the judiciary. The unreformed judiciary remains an important obstacle to firmly tackling corruption.
Progress in governance reforms, which were first introduced in program conditionality in 2014, has led to the creation of new anti-corruption institutions, but concrete results in adjudicating corrupt officials have yet to be achieved.
And some of the long-standing issues are not yet resolved. Although Ukraine took major steps forward in reforming the energy sector, an open and competitive market for energy has yet to be created.
“Politically, the temptation to remain involved in setting utility prices to gain electoral support remains strong,” the report stated.
When newly-elected, reform-minded governments come to power, they often fall prey to political divisions, face dwindling popularity and give in to pressures from vested interests, the IMF wrote.
Despite these limitations, IMF programs have proven to be useful.
However, the programs may need to be carefully tailored to political realities. Shorter arrangements might be preferable, or, alternatively, longer arrangements need to have mechanisms to terminate the program if it has gotten too far off track.
