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Rescue of Ukrainian economy depends on us


On August 27 Ukraine completed negotiations with the Special Committee of creditors on foreign debt restructuring. Although both Ukrainian and international community had been waiting this event, still there were critics of the decision. For example, former Minister of Finance of Ukraine Viktor Pynzenyk wrote in his column for that "there is no debt cancellation" and "we continue to pay substantial amounts". Let’s have a rational look at the situation and ask ourselves a question: "Did they have to write off our debt?"

Logic dictates that no – they didn’t have to. Creditors went to a certain length to write off 20% (and only on specific state debt categories) only because the Ukrainian side provided the alternative instrument of "value creation". In Ukrainian case, this instrument is GDP Growth Warrant from the category of value recovery instruments. Why would any investor prefer to lose money, after all?

Restructuring as a foundation for future economic growth

Restructuring of sovereign debt will help to reduce the overall debt burden. This will have a stabilizing effect on the Ukrainian currency and positive impact on Ukrainian "securities". Direct "mechanical" pressure on the national budget of the country will be weakened and it will be easier to manage liquidity and to coordinate cash flows.

All payments on the body that come by the IMF "Extended Funding" program will be postponed after 2019 – this will release financial resources that can be spent on system reforms and projects. Ukraine will not have to look for ways to make outgoing payments in amount to 11.5 billion US dollars from 2015 to 2018. This will significantly reduce the risks of payments crisis and devaluation spiral.

Forgive and forget?

The result of the negotiation process was the implementation of GDP Growth Warrant, the key parameter of which is creditors’ opportunity to earn on the recovery of economic growth in Ukraine during 2021-2040. With GDP growth dynamics around 3-4%, Ukraine will pay 15% of the amount that exceeded the 3% GDP growth. Compensation of GDP growth above 4% is set at 40% of the amount that exceeded the dynamics of 4%. In the period 2021-2025, even with the rapid or record growth Ukraine will not have to pay an amount than exceeded 1% of GDP. And if nominal GDP of Ukraine does not reach 125.4 billion US dollars, no payment will be required. IMF forecast – a return to the level of nominal GDP at about 125.4 billion US dollars in 2019.

Many experts and analysts have already criticized this instrument. The public perceived hybrid "warrant" ambiguously. The main argument of the majority was that the Ukrainian economy has collapsed so much, that the economic growth rate will be significantly higher than the established "beacons" and creditors will earn very well.

But why the fact that the "base plate" of Ukrainian economy will be significantly different in 2021 and 2025 is not taken into account? There is a time for economic jump in the next 10 years after which the growth in 3-4% will be part of a very optimistic economic scenarios.

Also, many critics do not consider the theory of capital time value. Reducing the burden on the budget and additional liquidity today is much more important than financial resources in 2021 and 2025. Taking into account the war in the east of the country, painful condition of the economy and total lack of confidence in the financial\banking system – a savings of $ 3.6-3.8 billion and significant delays could give Ukraine vital room for maneuver.

There is criticism that we have to make payments to creditors who agreed for restructuring 20 times. Sorry, but this is populism! What is the probability of this optimistic scenario? Are we going to demonstrate such a rapid growth of GDP during 20 years?

In fact, there are a lot of scenarios, and many of them depend on external factors beyond control of Ukraine, lenders and international organizations. The first 5 years, starting from 2021, the maximum we can pay to our creditors is $ 1.254 billion a year – given fiery dynamics of GDP growth. At weighted assessment and positive factors of influence our creditors will not return their losses till 2031-2033.

Restructuring solves a very acute problem with liquidity. The most basic element of the economy in the financial logic – cash flow and basic constraint in the behavior of each entity in the economy – "survival constraint" requires cash outflows not to exceed cash inflows. For Ukraine, it was crucial to get a postponement and cancellation of at least 20% of debt with a minimum rise of interest rate – thus coordination of payments will become more effective and easier. If we eliminate a permanent deficit of "Naftogaz", be able to implement fiscal reform, use the tools of monetary policy effectively, in synergy – this restructuring looks very attractive.

And what about the "Eastern neighbour"?

At the same time, there is an urgent issue of Eurobonds for $ 3 billion held by the Russian Federation due on December 20, 2015. The Russian Finance Minister Anton Siluanov made it clear that Russia will not take part in the Ukrainian debt restructuring. Russian Federation’s desire to continue external financial pressure on Ukraine's budget is very large, but very often it ends in wishful thinking. The probability of Eurobonds repayment on terms differing from those of the agreement with the creditors' committee is zero, as the current agreement requires equal treatment of all creditors of Ukraine.

In this case, everything will depend on the IMF decision. It should be understood that the probability that the IMF will support Ukraine is big, because suspending "Extended Funding" program will lead to the complete collapse of the Ukrainian economy and the whole country. This means they will have to recognize Ukrainian eurobonds at the hands of the Russian side as "commercial debt".

So what are we up to?

Modern history shows that a great achievement of humanity is the economic growth through credit. And there is nothing that supports this argument as the impact of the bond market on most economies in the world. As Professor Niall Ferguson wrote in his book "The ascent of money": "The bond market is the most important tool in human history that allowed our civilization to make a giant leap in its development."

For future economic development of Ukraine credit resources will play a key role because of country’s own financial platform not allowing to achieve the desired progress. Successful restructuring and rapid return to world capital markets will enable us to fund the creation of new economic units, run business cycles and generate revenue. These are realities of modern capitalism, where "liquidity now and today" is crucial.

It is important to note that restructuring does not solve systemic issues in the Ukrainian economy, monetary and fiscal policy. Debt restructuring gives Ukraine an additional opportunity for economic jump and effective reform. Restructuring gives our country the time and the opportunity to build a truly effective system of financial management. But, first of all, everything depends on us and on our efforts with challenging, painful and systemic reforms that will help to diversify and modernize our exports. This, in its turn, will return foreign investment, revive entrepreneurship, bring back confidence in the banking and judicial systems, becoming a platform for a new stage of Ukraine’s development.

Egor Perelygin, head of strategic planning unit of UniCredit Bank

Date: 15.09.2015


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