Economic reforms

1. Reform goals and key achievements for September 2019 – October 2020

In the fall of 2019, Ukraine was at the cusp of a new political cycle with the new Government, Parliament and Head of State representing one political force. Despite Ukraine's achievements in terms of economic reforms during 2014–2019 (clearing the banking system, forming an independent National Bank of Ukraine (hereafter - NBU), flexible exchange rate and inflation targeting policy), the new government was faced with many old and new economic challenges related to the hryvnia exchange rate fluctuations, the launch of land reform, the start of major privatization and further cooperation with the International Monetary Fund (hereafter - IMF). The new Government's program of action and the approved draft of the budget for 2020 makes it possible to identify the main directions of economic policy of the new Cabinet of Ministers of Ukraine (hereafter - CMU).

Among the main achievements of the Honcharuk’s government (in the period until March 2020), were the restrained budget deficit, reduction of the service cost for the public debt, the initiation of land reform, the beginning of the fight against illegal business (gambling establishments and illegal gas stations), the launch of privatization process of unprofitable non-strategic enterprises (about 1000 enterprises have been prepared for privatization).

At the end of 2019, the Government completed the unbundling of Naftogaz Ukraine, as was required by European legislation, which allowed Ukraine to meet the requirements of the European Union and enter into a transit agreement with Russia on European market terms.

Significant progress has been made in the area of financial policy. In 2019, inflation dropped significantly to a five-year low. The government successfully took advantage of good conditions in world markets and macroeconomic stability and placed Eurobonds, raising 1.25 billion euros at a rate of 4.375% with a maturity of 10 years, which was the lowest rate in recent years.

The NBU gradually lowered the discount rate - to a record 11% during a period of Honcharuk's government. During this period, the counteracting raiding and reducing corruption risks in Ukroboronprom continued to intensify, while Maksym Nefedov launched a new customs office, which was supposed to block smuggling flows.

At the same time, the impact of government borrowing on the exchange rate led to a rapid revaluation of the hryvnia, which demonstrated the highest rate of strengthening in the world - 19%. Sharp exchange rate fluctuations did not benefit the economy, the revaluation of the hryvnia deepened the trade deficit and became one of the reasons for the shortfall in the revenue side of the budget, it also affected the export earnings of exporters, who experienced a decline in world prices for traditional Ukrainian exports, a decline in world demand for steel, which generally led to a decline in industrial production.

The number of inspections for small and medium-sized businesses and citizens by state bodies has been reduced, some procedures in the field of state registration have been simplified, the Ministry of Digital Transformation of Ukraine has been established, the new tools, such as "State in the Smartphone" were launched, a number of government services were moved to online, and the innovative application "Action", which later gained worldwide recognition was launched.

Positive achievements also include the establishment of a surcharge for young teachers, guaranteeing payments for the birth of a child, launching a program of cheap loans to open small and micro businesses "5-7-9%". The government managed to finance state programs to support agriculture by UAH 4.4 billion, and reduce the heating bills by 30%.

Land reform became a key economic reform of the government, and after almost two decades of a moratorium on the sale of agricultural land, the law was finally adopted. Discussion and adoption of land legislation was accompanied by protests and parliamentary obstructionism of opponents of land reform. Due to the legislative spam the MPs, the process of adopting the bill № 2178-10 was slowed down. In general, the adopted law is the result of a difficult compromise between the state leadership and opponents of the reform.

At the same time, during the first two months of 2020, the state budget was not executed, in particular due to a decrease in revenues from import VAT and duties, and increase in the shadow turnover of excisable goods.

The period of the most severe quarantine restrictions due to the COVID-19 pandemic in April 2020, was devastating for many industries and businesses, reducing the capacity of individual industries to 10-15% of their normal capacity. In general, during the first nine months of 2020, industrial production in Ukraine decreased by 7% compared to the same period of the last year.

Accordingly, a significant part of retail trade and industrial production was lost. Adaptive quarantine approved by the Government of Denys Shmygal mitigated these consequences, but the effectiveness of the use of the COVID-19 crisis fund became a reason for public debate.

Strict quarantine has halted the spread of the virus, delaying the first wave of the disease. But total restrictions were devastating to the country's economy, state budget and people's welfare.

2. Key challenges in implementation of the reform

The economy turned out to be more stable than expected. The COVID-19 crisis hit the largest sectors less severely, the economic downturn was not accompanied by a financial and banking crisis, the government was able to start a program with the IMF in the summer and did not announce the default.

The rapid exit of the economy from quarantine in the summer was prompted by favourable conditions for world trade, primarily the resumption of rising prices for iron ore and steel, the stability of exports on major items (agricultural and metallurgical products, IT services).

On the other hand, the growing number of coronavirus patients in autumn and the uncertainty about the second wave of the pandemic, both in the world and in Ukraine, create challenges for economic policy and economic recovery forecasts. Plans to privatize several large state-owned enterprises have also been threatened in the midst of the pandemic and extreme uncertainty.

To support small and medium-sized businesses during the quarantine period, the CMU expanded the lending program "Affordable Loans 5-7-9%" to cover the necessary costs to maintain businesses, but as of October 2020 the program did not reach 50,000 borrowers, planned at the beginning of the year, and failed to create 90,000 new jobs due to the pandemic.

3. Understanding of the reform and citizens' expectations of its implementation

Some economic reforms carried out in Ukraine during 2014-2019 are now under the political threat.

The unpopularity of individual economic reforms among the population is a serious barrier and a challenge for their implementation. Thus, according to the poll of the poll group "Rating", 73% of the respondents answered "Do not support" the question "How do you feel about introducing the sale of agricultural lands"[1]. Economic reforms have low public demand, many of which share populist ideas and decisions, which reduces the capacity to support land reform and other priority issues. In addition to land reform, Ukrainians have a negative attitude to privatization (55%) and legalization of the gambling business (49%)[2].

According to a survey by the Center for Economic Strategy, Ukrainians are more likely to support populist policies such as state control over prices, lowering the retirement age, raising the minimum wage, guaranteed employment, etc. The results showed that on average 84% of respondents believe that the implementation of populist reforms will have a positive impact on the well-being of their families. Instead, 62% think that beneficial and realistic reforms will have such an impact (e.g., ready money instead of non-cash benefits and subsidies, transition to a pension system based on financial defined contributions, etc.)[3].

At the same time, citizens' opinions on certain issues differ depending on the formulation of the question. For example, a survey of landowners by the EasyBusiness think tank indicates that the majority of landowners (92%) would like to have the right to manage their land assets on their own[4].

Very limited investment in development and lack of modernization remain a critical problem for the Ukrainian economy. In early 2020, in Davos, President of Ukraine Volodymyr Zelensky announced a package of attractive conditions for investors, but there was no significant increase in investment. In autumn, the uncertainty regarding the placement of Naftogaz Ukraine’s Eurobonds for $ 500 million became a negative signal for international investors, as well as a number of resignations of foreigners on the supervisory boards of state-owned companies, along with criticism of the new government for the lack of an effective fight against corruption.

It appears that the new government also wants to control the courts and anti-corruption institutions, which could pose a threat to the IMF program. So far, it has not been possible to release the business from the pressure exerted by the security agencies. Despite the fact that in September 2019 the Government liquidated the Department of Economic Protection of the National Police, the Security Service of Ukraine still retains the authority to investigate economic crimes, which was one of the key pressure factors for the businesses.

A more conservative approach to budget revenue planning is needed, as shortfall in planned revenues will threaten with budget cuts. Planning a high budget deficit at around 6% of GDP will mean increasing public debt and the cost of its service. The increase in the minimum wage set by the Government in the draft state budget for 2021 by almost 30% is a populist move, which will increase inflation and consumer demand. The macro-forecast should be depoliticized, and revenues should be based on a conservative scenario.  In that case, the country will not be faced with unpleasant surprises.

The rule of law is the most important guarantee of the country's economic success, attracting both foreign and domestic investment, effective public finances and respect for human rights. In addition to the IMF funds, the budget should receive loans from the European Union and the World Bank, which will not be provided without fulfilling the terms of the program with the IMF. In the crisis and post-crisis years, this cooperation is critical: it will prevent default and the need to apply for financing of the entire deficit to foreign markets.

In this context, it is also critical to maintain confidence in the NBU and its political independence, especially among Ukraine's international investors, such as the IMF and the European Union.