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Where there is no law, but every man does what is right in his own eyes, there is the least of real liberty
Henry M. Robert

If Approach to Economy is Unchanged, IMF Loan Will be Wasted

13 November, 2012 - 00:00
VYACHESLAV YUTKIN

Should a financial crisis in Ukraine develop, there is a high probability that after the stock and currency markets the banking system would collapse as well. Will Ukraine follow the Russian pattern in this way? What are the Ukrainian banking system’s reserves? These are issues we discussed with Vyacheslav Yutkin, Vice President of Russia’s National Reserve Bank (NRB), and general representative of that commercial bank in Ukraine.

V. Y.: Perhaps for the first time in the history of independent Russia the country has suffered a major setback. Now, it is more than obvious that this crisis is mainly political, and the developments in the economy that we see today were brought about by political instability and the political weakness of those who govern the country. The recent fray will most likely push economic problems into the background for a long time. This can be explained by the fact that chaos is the most convenient time to struggle for power and prepare for a presidential campaign. Astonishingly, but during three weeks of crisis there have been no decisive moves to keep the country from going over the edge. Everything done has only worsened the situation.

Concerning Ukraine I would not say that crisis is absolutely unavoidable. But it is very close. The saddest thing is that crisis is being hampered but not put off. In fact, we are following the Russian path 80%. And I still cannot see the government taking any decisive steps to avoid a crash. We so far hear only speculations about a new IMF loan from all country’s leaders. This situation in itself is very humiliating. Of course, the country cannot do without it now. In case the IMF refuses to grant the new loan the hryvnia would fall steeply in two or three days, prices would rise, and Ukraine would lose everything it has achieved in the last 5-7 years. The country would be set back much further than Russia was. And if the loan arrives, we will simply remain on the brink a bit longer. If we do not change our approach to the economy, the loan will be wasted.

The financial instability in Ukraine has both Russian and Ukrainian preconditions. If we try to weigh these factors, the Russian ones are less. NBU experts are right in asserting that Russia does not exert such a strong influence on Ukraine but they keep silent on the fact that domestic reasons could cause a crisis anyway. It is not as bad that the crisis in Russia broke out first, and, to our government’s credit, Ukraine has had time to undertake some preventive measures. I remember President Kuchma saying during his meeting with US Vice President Albert Gore that Ukraine was on the threshold of a very serious economic crisis. Or, to put it in another way, in case there is no loan everything will collapse. Unfortunately, neither Ukraine nor Russia have any program to get out of the crisis.

Q.: But the other Wednesday the Premier issued a list of immediate measures.

A.: I don’t think this is a serious program. These measures will help postpone the crisis. And why did he do it only on Wednesday and not in July or even earlier? Even for a non-specialist it is clear that the measures are inadequate to the situation. The economy is sick. Debts are growing at catastrophic speed. The dynamic of foreign debt shows that the government has no alternative. And this path, as the Russian example proves, is disastrous.

Q.: Who do you think will be the winners and losers from hryvnia devaluation?

A.: The winners and the losers will be equal. First of all average citizens will lose. The newborn middle class who just more or less have managed to make a start in life, begun to save money and make deposits in banks will suffer most. This class is the most vulnerable to such a blow. Thus, it will be virtually impossible for the government to regain its trust in the next 5-7 years. Obviously, trust in the national currency is also lost. The hryvnia experienced a 12% official devaluation while in fact it dropped up to 50%. The credit and monetary system will suffer for sure. It will lose its stability so much that it will need several years to regain it. The stock market will lose.

A period of devaluation is extremely profitable for those who sell goods and raise prices. The state and the treasury will win because its foreign and domestic debts burden will be lessened. Domestic exporters will win also. However, while speaking of somebody’s profit, one has to remember that everything in the economy is interconnected. For instance, despite the amelioration of the state’s domestic debt, a future emission is unavoidable. And this means a new blow to the national currency. Thus, everyone will eventually lose.

Q.: What should be a bank’s survival strategy in conditions of devaluation and financial instability? What strategic mistakes from the past can play a fatal role for the banking system?

A.: It is hard to talk about strategy in these conditions. The best strategy for a bank is to stop operating until the situation becomes clearer. It will not be far from the truth if I say that 80 to 90% of Ukrainian banks have simply cut back their active operations. They have cut their services to the bone. They are just operating on the Interbank Exchange, buying and selling hard currency, and trying to overcome the crisis. In particular, banks are trying to get rid of government bonds.

The state bonds profitability on the secondary market has reached 200%, and this is a sure sign that the pyramid is about to collapse. Frankly speaking, the measures undertaken to restructure the state debt are unprofitable for banks. At the same time it is worth mentioning that conversion was conducted in a more civilized way than in Russia. It is good that the banks did not get robbed but they have gotten into trouble anyway. They counted on a profit which would enable them to expand their operation, but instead their resources have been frozen for one or more years. In other words, there was a lack of money and now the amount of money decreases even more. Thus, the market stands still. The banks are playing a waiting game, they have no room for maneuver. The recent NBU decision to increase the limit of obligatory bank reserves also leads to a decrease of the amount of money in the market. The most terrible thing now is that there are banks in Ukraine that are reneging on their obligations. Once some of the large banks announce default, the consequences will be disastrous.

It seems to me that the banking system has managed not to make strategic mistakes. However, hedging currency risks on the domestic bonds might have been a mistake. I mean the NBU hedging that took place at the request of some significant investors coming into the Ukrainian market. This decision seriously affected NBU reserves. However, to the NBU’s credit, this mistake was soon corrected.

Q.: How do you assess the NBU’s policy to curb exchange rates?

A.: The National Bank’s actions deserve the highest praise. It is something else that they are just technical measures to curb exchange rates. However, in the current situation the NBU fell hostage to circumstances and became unable to take other measures. And the fact that we still have not fully felt the consequences of the financial crisis is only due to Viktor Yushchenko and his team. He takes measures that are unpopular and unprofitable for many people. But they are the measures that the country needs most.

 

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