Despite the global crisis, Ukraine is increasing its foreign debt while producing and selling less and buying more
A financial analyst I know who also happens to be a top manager and co-owner of a small company aptly described the current condition of Ukraine’s economy by comparing it to the elk in a joke. In the joke, an elk wakes up with a hangover and goes to the river for a drink. While he is lapping up water to quench his thirst, a hunter fires a shot and wounds him. The elk pays no attention, but after another bullet hits his body, he raised his head and says in a sad voice: “I keep drinking more and more, but for some reason keep feeling worse and worse.” It is an ungrateful undertaking to interpret jokes, but the topic – the economic condition of our country – is serious enough to justify our attempt. Incidentally, for a long time (until 1999) the elk were viewed as a single species, but thorough studies proved that there are, in fact, two species: Alces Alces (the common elk, which inhabits, in particular, Ukraine) and Alces americanus (the North American moose). At the moment, both species are experiencing a “hangover”.
The tendencies inherent in the contemporary crisis can be best traced using the example of the moose. The global economy entered this stage a while ago with a slew of pre-existing conditions. Some of the causal links were highlighted in issues 38 (2011) and 48 (2011) of The Ukrainian Week. Since then the key trends have remained almost unchanged: volatile currencies, a gloomy outlook for the labour market, industrial stagnation after the collapse of 2008-2009, increasing sovereign debt, etc. The only difference is perhaps that the World Bank once again scaled back its global economic forecast from 3.2% to 2.5% for 2012 and to a little over 3% for 2013. The EBRD then cut its forecast for the growth of Ukraine’s GDP from 3.5% to 2.5% for 2012. Ukraine will most likely be greatly affected by the crisis in the eurozone. The most recent data on industrial production already points to a decline, its statement reads.
Essentially, the precipitation of global economic recession means that the emission of money (an anti-crisis measure to which nearly all national banks resort) is not delivering the desired result. “The elk is drinking more and more, but feeling worse and worse.” Why? One explanation is that the inability to secure economic growth has to do with the structure of government expenses and the inefficient use of newly-issued money. This is partly so, but leading Russian analyst Mikhail Khazin, who began to write about the crisis and study the problems of recession long before it set in, observed that there is no direct correlation between appeals to “tighten belts” (which are heard in the USA, the EU, Russia and Ukraine and other countries) and promised “economic growth.” Moreover, a sharp reduction of expenses (including from the budget) within national economies may deliver a devastating blow to them. In other words, the elk in the joke cannot but drink. It has a hangover – and there is no getting away from it.
What are the causes behind this state of affairs? Loosely speaking, the contemporary economy may be divided into two components: the real sector (in which production and end demand are realized) and the financial sector (which does not produce any new goods). In the past 30 years, according to Khazin, the interaction between these two most important economic sectors was based on the financial sector producing credit (rather than monetary) emission. This approach enabled countries, financial institutions, companies and households to increase their consumption volumes, i.e., the end demand which guided producers. Naturally, debts grew (increasing even more in 2011) and were largely not paid off. Instead, they were restructured, prolonged or paid through new loans. The contemporary national economic systems simply cannot function in any other way.
We know well what happened next: as soon as the US Federal Reserve System – the ultimate creditor – cut its interest rate to zero (essentially indicating the real value of money), panic erupted. Khazin sorted through a wide range of expert opinions, conjectures and forecasts and singled out two – in fact, interrelated and cyclic – trends: 1) financial institutions drastically cut credit volumes (which led, most importantly, to lower demand from the state and households, lower production volumes, layoffs and an even steeper decline in demand. – Ed.); 2) difficulties in paying off earlier loans (with financial institutions, companies and households going bankrupt and nations facing defaults. – Ed.).
What will happen next? What to do? It may not be a good idea to search for general answers to these questions, because it may well be that no universal anti-crisis cure exists.
The Ukrainian Week has written in depth and on a number of occasions about the problems experienced by the Ukrainian elk. They are largely the same as in the case of Alces americanus, only smaller in scale and more acutely painful. But Alces alces is a remarkable animal. Why?
Our elk cannot live without the American moose. Ukraine’s National Bank has yet to draw detailed analytical conclusions from 2011, but no result can be safely interpreted as a result in this situation. This is corroborated by both competent sources and interim official statistics. For example, in the nine months of 2011, Ukraine’s gross external debt (including corporate debt) grew by $5.8 billion and reached $123.1 billion by the end of September. This is – just think about it – 76.6% of the national GDP. Of course, you can point to Portugal, Greece, Italy, Iceland and other countries whose sovereign debts exceed their GDP, in some cases multiple times. But they cannot be a basis for comparison, because Ukraine’s GDP is measured in hryvnias, while our debts are in hard currency.
The growth of foreign debt in January-October 2011 was caused by several factors: the government placed $2.8 billion worth of Eurobonds, guaranteed $0.7 billion in loans and increased the commitments of other sectors in terms of trade and long-term credits ($3 billion and $1.4 billion, respectively). In general, our elk did not “drink” so much compared to previous years, but it was feeling even worse. In particular, the volume of short-term debts (remaining maturity basis) increased by $3.1 billion in nine months to reach $52.6 billion. This is how much currency can theoretically leave the country if creditors demand from the state and its residents that they meet their obligations in full on September 30, 2012. This is almost 1.5 times the NBU’s international reserves as of late September 2011. We were fortunate in previous years to have our debts restructured in one way or another. Will we have the same luck in 2012? Alces americanus is not in its best shape now.
We could dwell on the condition of Alces alces, but the one figure that seems to stand out in this context is that the consolidated payment balance sheet for the third quarter of 2011 had a deficit of $1.7 billion. The national bank officially admitted that this was caused by “a decrease in a capital inflow in the financial account, whereas the current account deficit continued to expand.” In other words, Ukraine received less credit and investment money than before and exported less than it imported. This latter condition has become traditional: the cumulative current account deficit grew to $8.2 billion year-on-year as of September 30, 2011.
The real situation is clearly different from these statistical figures. But there is no need to look any deeper. The context is ridiculous as it is. Ukraine's economy is based on large industrial enterprises; imported gas is becoming more expensive; the trade balance has been negative; total foreign commitments are growing (even when the IMF does not seem to be delivering money); power in the country belongs to people who would have to be the first to suffer from all this (even disregarding the critical vox populi). “Plop, plop, plop” is a way to nowhere; this is not economic management. Strangely, Alces alces does not see a reflection of its condition in the “river.” We recently learned that Ukraine imported over 5,700 ploughs worth $6.5 million in 2010. The sum may not seem very interesting, because it is much more profitable to export iron ore to China. But this is just one of many examples, and each example equals jobs that failed to be created and money that failed to be earned (not loaned!). And in general, who wants to run a country that imports ploughs? Someone told me that in the 1990s, one post-Soviet country exported spades, but they were made of titanium.
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