52% of the nation’ s money supply remains outside banks

The National Security and Defense Council (NSDC) discussed on January 25 the item, On Measures to Bring Money Circulating Outside Banks Out of the Shadows. This topic of discussion was caused by the unsatisfactory functioning of Ukraine’s financial system, which throws money into circulation outside banks, contributes to the shadowization and criminalization of the nation’s economy, capital flight from Ukraine, and poses a basic threat to national security. The materials prepared for this meeting show that the situation is very serious.

According to NBU data, 52% of the hryvnia money mass was outside the banking system at the beginning of 2001. These funds are widely used for settlements in the shadow sector of the economy, thus becoming a customary instrument of illegal currency operations. Out-of-bank money circulation seriously depletes the national banking system’s resources, which reflects on loan and investment proposals. Considerable masses of the out-of-bank money form the financial basis for the shadowization and criminalization of Ukraine’s economy. The shadow economy uses foreign currency as its chief medium of circulation and resorts to the hryvnia only to legalize its illegally earned funds. It should be noted that shadow money circulation is fertile soil, on which criminal capital grows and dominates, with the legal banking system taking an active part in this process. Some data reveal that the shadow segment of the financial and banking sector accounts for about 67% of its net profit. Over the past ten years $20 to 40 billion have been smuggled out of Ukraine, usually to be legalized in offshore zones. A striking example of this are the activities of the Slovyansky Bank. The smuggled capital returns to Ukraine as foreign investment and loans.

What has also induced money to flow past the real sector of the economy is Ukraine’s economically unbalanced monetary policy. Experts believe its main drawback is that the indices of the money mass have long been assessed against foreign loans rather than against GDP and the commodity mass.

Maintaining a stable hryvnia at any cost is a very dubious exercise. This kind of policy has made it impossible to tap domestic reserves and provoked what has been dubbed the debt economy.

Still unfulfilled remain the basic provisions of the President’s message to Verkhovna Rada of November 19, 1998, about a substantial increase of the level of monetization and adequate supply to the economy of payment instruments and credit resources. This blocks the transformation of the monetary sphere in the interests of the domestic commodity producer.

Bad debts also keep the shadow money outside banks circulating. NBU data show that loan-related debts reached UAH 2.52 billion at the beginning of this year (15.8% of the total credit extended to economic entities and individuals). Of wide currency are banking operations to convert non-cash funds into unaccounted cash. There has been a virtual avalanche of these operations, a crucial item of the uncontrolled profit of most commercial banks, since the end of 1996.

In this connection, the NSDC noted failure to fulfill the President of Ukraine’s decree On Comprehensive Measures to Revitalize the Banking System in 1999-2000, as well as inadequate fulfillment of the decree On the Basic Policy Guidelines Concerning the Monetary Incomes of Ukraine’s Population.

The NSDC has concluded that the key economic sectors have formed a chain of middleman firms catering to large, usually state-run, enterprises which produce readily salable products. These entities have become the umbilical cord between the ailing legal and the thriving illegal economies, diverting money flows into out-of-bank circulation by such means as, for example, the shadowization of import-export operations. NBU data show that over the three past years alone Ukraine has not received UAH 7.5 billion in import-export related hard currency.

For this reason, the NSDC concludes, existing problems in this area show that the executive authorities are making inadequate efforts to create favorable conditions for business development and are not counteracting the shadowization and criminalization of money circulation.

One of the most fundamental problems is tax pressure on the working people’s incomes. This forces entrepreneurs and workers to conceal the true size of their pay, putting the latter in the shadow sector. This results in the so-called black money accounting for the lion’s share of the incomes of employees outside the public sector.

The NSDC session worked out a package of legal, organizational, and economic measures aimed at removing the shortcomings in financial management, ensuring effective counteraction to the shadowization of money circulation, and making the monetary system work for Ukraine’s economic growth. The session’s conclusions will be made official by a presidential decree to this effect.

The envisaged measures should eliminate the situation where the official financial system has become an appendage to the shadow one. Otherwise, it is doubtful that public- sector employees and pensioners can hope for any predictable future.