IMF says Ukraine must curtail inflation and improve poor investment climate (08/14/05)

IMF says Ukraine must curtail inflation and improve poor investment climate

by Zenon Zawada
Kyiv Press Bureau

KYIV - Ukraine's economic leaders must take steps to curtail accelerating inflation and improve the nation's investment climate, said Rodrigo de Rato, the managing director of the International Monetary Fund, during a visit to the country on August 4 and 5.

"We agreed that the immediate challenge for the government is to lower inflation while helping to relaunch sustained growth," Mr. de Rato said, referring to his meetings with President Viktor Yushchenko, Prime Minister Yulia Tymoshenko and National Bank of Ukraine (NBU) chair Volodymyr Stelmakh.

Mr. de Rato's recommendations arrived at a particularly challenging period in the Ukrainian economy as recently released statistics painted a grim situation: increasing inflation, slowing growth, declining trade, falling industrial product and investment at a standstill.

Inflation in June increased 14.4 percent from the same period last year, according to an economic report released by SigmaBleyzer, a leading investment bank in Ukraine.

So far, the Ukrainian government has been reporting inflation at 6.4 percent for the first half of 2005, compared with the last year.

However, economists said the monthly inflation figure is more accurate.

To cope with the mounting inflation, Mr. de Rato recommended tighter monetary conditions, including adopting a monetary framework that allows the National Bank of Ukraine (NBU) to control inflation more effectively. Ms. Tymoshenko appeared to have agreed.

"After our meeting, it is quite clear what Ukraine should now do at the level of the National Bank and at the government level so that the inflation processes in Ukraine are fully in line with the planned macroeconomic indicators for this year," she said.

Reduced inflation should ensure further economic growth for Ukraine, Mr. de Rato said.

Real Gross Domestic Product (GDP) grew a mere 1.1 percent in June from the same period last year, the SigmaBlayzer report stated.

During the year's first half, cumulative GDP growth rose 4 percent from the same period last year, compared with 12.7 percent in the corresponding prior-year period.

As part of the challenge of lowering inflation while stimulating growth, Mr. de Rato said a prudent fiscal stance of lowering budget deficits is needed, as well as improvements in the investment climate.

In the long term, he said, Ukraine's main challenge will be to develop market-friendly institutions that could support economic growth of the private sector.

Anders Aslund, director of the Russian and Eurasian Program at the Carnegie Endowment for International Peace, said Mr. de Rato was referring to the need for Ms. Tymoshenko to stop applying price controls on commodity markets such as gasoline, grain, meat and sugar.

In doing so, she has been arbitrarily galvanizing the markets rather than fostering a market economy, he said.

"President Yushchenko told Ms. Tymoshenko to stop interfering on May 19, but apparently that was not enough," Dr. Aslund said.

Dr. Aslund, one of the world's most diligent observers of the Ukrainian economy, has also been advocating that the Yushchenko government halt its entire reprivatization program.

As long as investors fear that the Ukrainian government will violate their property rights, the economy will languish, he said.

Despite the fact that much of the property Ms. Tymoshenko is targeting was illegally or unfairly privatized, Ukraine is essentially better off allowing the thieves to get away with their loot, Dr. Aslund said.

"The American robber barons were hardly better than the oligarchs, and not a single one of them had their property expropriated," said Dr. Aslund, a native of Sweden.

"That's why the U.S. is wealthy. Otherwise, you can go back to the Soviet view, which is expropriating property from those you don't like. Wealth or justice - that's the choice."

Robber barons were the extremely wealthy American businessmen of the late 19th century who grew rich through exploiting natural resources, government relations and low wage scales.

Incidentally, it was a robber baron such as Andrew Carnegie who established the foundation that led to the Carnegie Endowment for International Peace, which promotes democracy and Western values in Ukraine.

William Averell Harriman, the son of another robber baron, established the Harriman Institute at Columbia University, which specializes in post-Soviet studies, particularly Ukraine.

The Ukrainian government has lowered its GDP forecast for the year by 0.2 percentage points to 8 percent year-over-year, the SigmaBleyzer report stated.

However, GDP growth of between 6 and 7 percent is more realistic, according to the report.

In June, industrial output declined by 1 percent from the same period a year ago.

"What we're seeing is economic disaster instigated by the Ukrainian government," Dr. Aslund said. "If you manage to lower economic growth from 12.1 percent (in July) last year to a decline in July this year, you couldn't have done worse."

Not all economists feel that blame should fall squarely on the Yushchenko economic team.

Many external factors need to be taken into account to explain Ukraine's slowdown, said Yevhenia Akhtyrko, a senior economist at the International Center for Policy Studies, which is financed primarily by financier George Soros.

"Everything that is occurring is not necessarily a sign that the government is doing something wrong," she said. "It needs to resolve problems inherited from the prior government."

It would have been difficult for any government to match last year's explosive 12.7 growth rate, fueled by a rash of pre-election government expenditures, she said.

In past years, Ukraine exported a large sum of metals, particularly to China, she said. However, China has become a competing exporter during the past year and that market has closed, she said.

As exports have declined, importers have been declaring more of their goods as a result of Ms. Tymoshenko's Stop Contraband!, a sophisticated program that implements efficient checks on imports in order to deter smuggling and raise tax revenues.

The combination of declining exports and rising imports had a negative effect on the GDP figures, she said.

Ms. Akhtyrko agreed that the reprivatization drive has severely dampened economic activity, as domestic investment has plummeted 68 percent so far this year compared to the same period a year ago.

The Yushchenko government banned privatizing strategic enterprises in February 2005 while it changed the State Property Fund's management and compiled the list of assets targeted for reprivatization.

Now that the government lifted the ban in June and endorsed a privatization plan, confirming a list of 33 targeted businesses, that should be a signal to investors that it's safe to come out of the shadows, she said.

"With reprivatization, the list should have been shorter, no more than two or three of the biggest enterprises - Kryvorizhstal and Nikopolskyi pipe factory," Ms. Akhtyrko said. "They should have left the rest alone."

In a statement following her meeting with Mr. de Rato, Ms. Tymoshenko said they discussed lowering inflation, attracting investment, drafting Ukraine's budget for 2006 and improving taxation.

The 2006 budget calls for a lower deficit, a sensible tax policy that would expand the tax base and a reduction in the amount of taxes, Ms. Tymoshenko said.

"As of today, the situation in the country is stable, predictable and quite optimistic," she said.

Cooperation with the IMF was important to Ukraine, she said.

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