Lender knows it must be 'flexible' as Ukrainian delegation flies to Washington with little to show
The International Monetary Fund is adopting an understanding attitude as crisis-wounded Ukraine falls futher and further out of compliance with a recently agreed 3-year reform program. The question observers are asking is: just how far can the IMF bend?
A Ukrainian delegation, including Prime Minister Valery Pustovoitenko, Finance Minister Ihor Mityukov and National Bank Governor Viktor Yushchenko, are in Washington this week for a meeting of the 182-nation IMF and its sister institution, the World Bank.
While there, the Ukrainians are expected to discuss with IMF officials what they must do to obtain further tranches of the $2.2 billion in low-interest loans attached to the reform program.
But a review of the criteria the Ukrainian government promised the IMF it would meet at or by the end of September shows the government missing most of what there was to miss.
According to the IMF’s Kyiv office, the international lender won’t be a stickler on such details.
‘We know we have to remain flexible and we have to adjust,’ said Patrick Lenain, the IMF’s top official in Kyiv. ‘We know a lot is not going to happen, or it will happen faster, or slower.’
‘There may even be new measures,’ he added, suggesting some parts of the program could be rethought in light of the crisis.
Posted on the IMF’s web site, the Ukrainian government’s 83-point memorandum of conditions reads something like a Soviet five-year plan with its idealistic tone, and even more like a Western-educated economist’s thesis paper.
Snippets from the introduction include: ‘ensure progress in stabilization … create a smaller and more efficient government and accelerate deregulation … financial sector reforms, an acceleration of privatization; the restructuring of key economic sectors, and policies to improve competition … improvements in the social safety net.’
‘It’s a very ambitious program for Ukraine,’ said Alexei Sekarev, an economic advisor with the Ukrainian-European Policy and Legal Advice Center, a European Union-funded research center.
‘On one hand it’s very difficult for Ukraine to fulfill many of the conditions,’ he said. ‘On the other hand, there is a readiness on the part of the IMF to yield.’
Ukraine’s grand plan for economic revival underwent drastic modification before it even got off the ground. The Aug. 11 memorandum envisages a plan dating from July 1, 1998, to June 30, 2001.
By the time the government and IMF board of directors reached a final agreement on the loan on Sept. 4, the Russian financial crisis had hit and many of the financial benchmarks written into the program had become unrealistic.
In a Sept. 4 letter to the IMF, the government indicated it would not be able to replenish its depleted hard-currency reserves as promised, and would introduce a 50 percent export surrender requirement on companies’ foreign reserves in domestic banks for two months. The letter also introduced the new exchange rate band of Hr 2.5-3.5 to the dollar.
The IMF accepted those new conditions as unavoidable in light of the capital flight from Ukraine. The government and IMF also agreed to a whole new set of financial benchmarks, including gross domestic product, consumer price inflation, aggregate state revenues, state budget deficit, money supply, current account balance and foreign currency reserves.
Since the program was finalized, the economic situation has deteriorated further. Although Ukraine met its Sept. 30 gross domestic product target, it is unlikely to meet a target of 11 percent third-quarter inflation given the steep devaluation of the hryvna. On Sept. 28, the National Bank’s foreign reserves stood at $1.08 billion, about $250 million short of the Sept. 30 target. Sept. 30 targets for state revenues and the state budget deficit were also missed.
In a novelty for the IMF, the Sept. 4 agreement committed the Ukrainian government to ‘voluntarily’ convert 80 percent of its outstanding treasury bills into longer-term bonds. That deal has not worked, as more than 20 percent of the holders of the bonds have objected to the government’s terms. The result has been effective default, something the government promised to avoid.
Anticipating resistance from the Ukrainian parliament, the IMF agreement is rather lenient in the area of legislation. On many issues the government and IMF apparently agreed to admit defeat in advance, putting in conditions that commit the government to draft laws without requiring that those laws ever be adopted.
Nonetheless, the parliament has already thrown a few wrenches into the agreement. Ukraine promised in the memorandum that it would already have stopped budgetary subsidies for utilities and transport by imposing tariffs at regional level to recover service costs. The law is still floating in legal limbo between parliament and president.
In September, parliament overrode a presidential veto of a law banning hikes on utilities rates. The president has appealed to the Constitutional Court.
Meanwhile, on Oct. 1 parliament rejected three draft laws proposing cuts in privileges for electricity, communications services and public transport costs. Failure to fulfil the condition is worrying the IMF.
‘This is already a concern,’ said Lenain. ‘If there are subsidies, we need to know where the resources are to fund them.’
‘The memorandums required by the IMF assume that Ukraine is of a single mind about economic issues, and that’s not the case,’ said Patricia Bartholomew, an economist at Commerzbank’s Kyiv office. ‘Ukraine needs to develop a competitive economy, but there has been trouble getting [legislation] through parliament and I suspect there will continue to be trouble, which will continue to frustrate the IMF.’
Other must-pass laws are also likely to hit hang-ups. For 1999, the Sept. 4 letter promises a deficit of 1.0 percent of GDP, something parliament is unlikely to approve when it considers the budget this fall.
But the government has also missed conditions that were solely up to it to fulfill. Primary among those was a promise to lay off 100,000 state employees by Sept. 30.
Since the June start of the government plan, Ukraine has issued a rag-bag of presidential and Cabinet decrees, some in line with IMF requirements, some taking a side-ways step, and some directly in opposition. The clear conflict is between measures toward deregulation and steps that allow for government intervention in the economy, like protecting Ukraine-produced goods, writing-off tax arrears, and expanding the list of excise exemptions on local goods.
However, according to Sekarev, the IMF is willing to overlook measures that contradict the spirit of IMF policy so long as they don’t specifically contradict agreed conditions and the critical mass of legislation remains positive to reforms.
‘Substantially it is enough to be fulfilling the memorandum,’ Sekarev said. ‘Whether that is accompanied by different or opposite steps is another question.’
As with Soviet-era five-year-plans, the production goals and other targets and deadlines outlined in the government’s memorandum to the IMF are not set in stone. If criteria are not complied with, ‘We can envisage waivers,’ Lenain said.
Quarterly reviews will look at long-term trends, and if the IMF Board of Directors deems a review not positive enough the loan will be stopped. The IMF also reviews Ukraine’s progress before deciding to release each monthly tranche of the loan.
That frequency is the best indicator of how dubious the IMF is about Ukraine’s ability to keep its promises. Only Russia has disbursements with the same frequency; all other IMF country loans are regulated quarterly or even half-yearly.
The IMF board doesn’t have the power to send anyone to Siberia, but Ukraine’s leaders might wish they were somewhere even more remote if the lender decides to cancel its loans.
By itself, the IMF money is critical to balancing Ukraine’s budget, servicing other high-interest government debts, paying for imports and maintaining the hryvna as a viable currency. Moreover, other loans from the World Bank are conditioned on the government keeping to the IMF program, and private lenders and investors rely heavily on the IMF as an indicator of Ukraine’s economic prospects.
The IMF is in a very difficult position,’ said Bartholomew. ‘They don’t want to seem too strict, they are trying to get as much reform through [as possible] without pushing it too far and causing a backlash against reform. But they also don’t want to be seen as a pushover.’
While in Washington, the Ukrainian delegation were also scheduled to meet with officials from the World Bank and the European Bank for Reconstruction and Development.
