Ukraine’s economy seems to be picking up again
When the ports of Odessa were closed by naval threats early in the war, farmers were unable to ship their produce.
“We were getting phone calls from Milan, crying, saying they had no ingredients for their pasta,” recalls Alla Stoianova, a local official.
Since the ports of the region are the main export channel of Ukraine – the world’s second largest exporter of cereals and third largest exporter of vegetable oils –global food prices have skyrocketed.
The blockade, however, was the most painful for Ukrainians. The invasion of Russia treated the country’s economy a wild blow. Battles are raging over land that produced a fifth of GDP last year.
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According to the Kyiv School of Economics, the bombings caused $10 billion in damage to businesses. The workers either joined the fight or fled to safety. Of the 6.2 million internally displaced people, a third are unemployed. The IMF estimates that GDP will shrink by 35% this year.
Yet, slowly and grimly, the country’s economy has adjusted to the war and seems to be on the upswing.
Take the ports of Odessa. They are running at a lower capacity than normal, but they are working now. A worker says he is called in for two or three shifts a week. From the promenades of the majestic Odessa park, cargo ships can be seen floating between towering yellow cranes.
A grain agreement negotiated in July under the auspices of the UN allows Ukraine to export agricultural products; since then, at least 7.8 million tonnes of grain have been released.
The country expects a harvest of 65-70 million tonnes this year, down a third from pre-war levels, but a healthy total given the circumstances. The harvest must be sufficiently profitable to allow the sowing of the new season. As food can leave by ship, rail capacity is freed up for the export of metals.
Ukraine’s success on the battlefield also made the difference. In August, as many people entered Ukraine from the EU as from the other direction. The share of businesses working at more than half capacity rose to around 80% in September from 58% in May. This reflects both growing security and official support. A government program helped 745 businesses relocate to safer parts of the country.
In the meantime, sound policy has helped the country avoid a financial crisis. When the war started, the government’s budget deficit soared to US$5 billion per month (compared to US$600 million expected before the war). Despite the central bank’s best efforts, it had no choice in July but to devalue the currency. Another devaluation now looks likely given the gap between the cash exchange rate and the official rate, says Olha Pindyuk of the Vienna Institute for International Economic Studies, a think tank.
Still, these issues have proven to be navigable. Banks entered the war well capitalized, thanks to consolidation and cleanup after the Russian land grab in 2014. Digital skills honed during the Covid-19 pandemic have kept their doors open. The independence of the central bank, established in the post-2014 reforms, helped to avert panic.
“None of this would have been possible eight years ago,” said Natalie Jaresko, finance minister from 2014 to 2016.
International donors stepped in with much needed money. At first, the offerings were just enough to keep the government afloat. But as the war dragged on, the need for greater commitments became clearer.
America has sent US$8.5 billion and will soon add another US$4.5 billion. The EU and its member states pledged a similar amount, but did not respond. In September, after many back and forths, they sent 5 billion euros in the form of loans. Perhaps unsurprisingly, Washington’s patience with Europe is running out.
The same goes for Kyiv. The government estimates that it will run a budget deficit of $38 billion next year, equivalent to 19% of pre-war GDP. Ukraine also needs around US$17 to rebuild critical infrastructure and housing for returnees.
Timely money is more important than its form. “But of course it matters a lot whether it’s loans or grants when considering Ukraine’s eventual return to the markets,” notes Kostiantyn Kucherenko of Dragon Capital, an investment firm in Kyiv. .
The Biden administration plans to send $1.5 billion a month in grants next year and hopes the EU will do the same. The European Commission is working on a proposal, but its budget has already been allocated. Bargaining between Member States is likely to continue for some time to come.
Ukraine’s exact needs will partly depend on the fate of the grain deal. The deal expires on November 19. The Kremlin complains that its fertilizer exports are hampered by Western sanctions and wants Ukraine to reopen an ammonia pipeline linking Russia to the port of Yuzhne, located 20 km northeast of Odessa. Local officials fear that these demands are a pretext to cancel the agreement.
The Ukrainian government also has a role to play. Its spending needs to be better targeted, says a recent report by the Center for Economic Policy Research (CEPR), an academic network. Some measures, such as gas and district heating price caps, introduced in July, are wasteful. Aid to displaced people takes the form of a basic income, which goes to everyone, whatever their needs.
The CEPR report recommends taking inspiration from the American World War II playbook. During the conflict, the number of American households paying income tax increased tenfold and overall taxes increased.
Ukraine’s flat tax system, designed to make the country an attractive place to invest in normal times, is ill-suited to support a wartime economy. The country’s economy is now growing, but its outlook remains uncertain.
Additional support will be needed. If Ukrainian ministers had to make tougher decisions, Europeans with clenched fists would have one less excuse not to pay.
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