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On October 12, the IMF mission started working in Kyiv. The results of its appraisal of Ukraine’s economic and financial policies should shape the final decision as to the disbursement of the USD 4bln fourth tranche of the stand-by loan. Our assessment of Ukraine’s progress on its key commitments to the IMF paints an unsatisfactory picture. Most of the policy criteria have not been met, either fully or partially. We still think that the Fund is likely to postpone the fourth tranche until 2010. At the same time, we believe that Ukraine has chances to get the fourth tranche in 2009.
The IMF has provided Ukraine with “special treatment”… So far, Ukraine has received SDR 7bln, which amounts to 63.6% of the total stand-by loan agreed upon in late 2008. This is equivalent to 510% of Ukraine’s quota for the Fund’s loans. Moreover, the IMF has conceded that a large share of this money (SDR 3.125bln, or 45% of all the funds received so far) went towards needs related to the state budget. This is a highly uncommon practice for stand-by loans, which are usually directed at supporting the balance of payments and not at financing government expenditures.
…while Ukraine’s progress on its key commitments to the IMF is unsatisfactory. Most of the policy criteria set out in the Ukraine-IMF Memorandum have not been met, either fully or partially (see the table on the next page). The government has produced many broadly-defined reform plans like streamlining social privileges (see Astrum Daily of June 10, 2009) or reforming the domestic gas market, but the real results have been next to nothing. There are many important issues that have received the IMF’s endorsement, like retail gas price increases or aligning the official exchange rate with the market rate in the ±2% band. However, the government is not keen on increasing gas prices for households prior to the presidential elections, and the NBU has invented its “average-weighted FX market exchange rate” statistics, which significantly differ from the reality on the Interbank FX Market. The NBU has breached the ±2% band even against this measure (see chart).
No spending cuts prior to elections. The government has not produced any viable strategy for cutting fiscal expenditures, and there will be no such moves on the part of the government in the lead-up to the presidential elections, especially with prime minister Yulia Tymoshenko as one of the front-runners. Moreover, the Parliament has been insisting on massive increases in social spending, and we expect that the government will offer some extra pork barrel too. None of this is in line with the budget cutting strategies, which are heavily monitored by the Fund in other loan recipient countries like Hungary.
Now the IMF has the last opportunity to prevent its image from sinking in Ukraine’s quick sands. We maintain our assumption that the Fund will postpone the fourth tranche of SDR 2.5bln (USD 4bln) until 2010. The IMF has found itself in a tricky situation, since it is essentially the key supporter of the government’s spending on the eve of the presidential elections. This issue is very likely to be exploited by Ukraine’s opposition and may add to international criticism of the Fund. Moreover, providing Ukraine with 86% of the stand-by loan depletes the incentive for Ukraine’s government to follow the stand-by program conditionality in 2010.
The IMF’s motivation has decreased: fewer threats and achievements allow for more hesitation on Ukraine... This spring, the Fund had to make a tough decision: to either close its eyes on Ukraine’s low scores on the agreed policy implementation or to let the crisis in Ukraine aggravate, with the potential contagion of additional instability to other crisis-hit economies in Central Europe and the CIS. By saying “yes” to Ukraine, the IMF chose the former option. Now, with Ukraine having rather successfully fulfilled a substantial amount of external debt servicing scheduled for 2009 and with Ukraine’s economy slowly rebounding from its 1H09 bottom, on the one hand, and unwanted political implications of supporting the government on the eve of elections, on the other, the Fund’s final decision may well change. We expect that this time the “yes” answer will be transformed to a “yes, but later”.
...but the probability of receiving USD 4bln in 2009 is still high. At the same time, the probability of the IMF continuing its “eyes wide shut” strategy towards Ukraine in 2009 remains high. The Fund is still unwilling to fill its track record with “failure stories” and recovery in the region is still fragile. If the scenario of the fourth tranche disbursement in 2009 unfolds, we may review our outlook for the BoP, fiscal aggregates, and the exchange rate for 2009-10.
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