The Ukrainian economy is gradually emerging from the acute crisis of 2014-2015, but this recovery is not impressive at a high pace. Unfortunately, in the course of five post-revolutionary years, Ukraine failed to carry out the necessary radical reforms. In 2019 Ukraine is expected to keep restrained GDP growth at 3%. Inflation is expected at 7.4-10%, budget deficit – UAH 89.3 billion or 2.3% of GDP. The key sectors that determine the dynamics of GDP are agrarian sector, metallurgy and trade.
2019 will be uneasy for Ukraine. First, in 2019, Ukraine needs to repay its debt obligations to external creditors in the amount of UAH 417 billion. Despite the already approved new tranche of the IMF in the amount of $ 4 billion, Ukraine has not enough funds for payment. This means that the state will have to borrow more. Secondly, raising tariffs in the future is inevitable. And, in addition to rising gas prices, an increase in the cost of electricity should be expected after the introduction of the electricity market. It is also necessary to take into account the changing exchange rate of the national currency, which is unlikely to contribute to stability. And if we add to the activation of migration processes here, the total mistrust in the Ukrainian politician and state institutions, then the winner of the electoral race at the end of the year may find itself in a difficult situation.
The Law “On the State Budget of Ukraine for 2019” is based on the forecast of economic growth next year at 3%. The current forecast of the National Bank of Ukraine implies an increase in GDP of Ukraine in 2018 at 3.4%, in 2019 – at 2.5%, in 2020 – at 2.9%. Consensus-forecast on Ukraine’s GDP growth in 2019 suggests that the growth of the national economy will be 3.5%. The IMF forecasts Ukraine’s GDP growth in 2019 will be 2.7%, the World Bank – 3.3%, the EBRD – 3.5%.
In 2019, the hryvnia will be under pressure from a foreign trade deficit, high external payments, and speculation around the election. Additional risks to the hryvnia may be reduced yields, instability of the global economy and lower prices for the main products of Ukrainian exports.
In the Ukrainian conditions, achieving an annual growth of 2-3% is not so difficult: in addition to the low base of comparison, the fact that the economy gradually adapted to the new post-revolutionary reality also helps.
Placed in the budget-2019 macro-financial indicators are quite realistic. However, achieving a higher GDP growth than 3% is difficult due to populist trends, pending reforms and unchanging corruption problems.
The main driver of economic growth will be a private consumption of households, supported by an increase in real wages and transfers from abroad. Increasing household incomes will continue determining GDP growth, as well as boost savings and demand for bank loans. However, it will slow down due to tight fiscal policies and a more moderate competition on the domestic labor market.
The development of the Ukrainian economy in 2019 may be threatened both by external and internal factors and trends.
Russia has spread military aggression against Ukraine at sea. On November 25, 2018, Russian Navy and Coast Guard seized three Ukrainian naval vessels. This became the reason for the introduction of martial law in the ten regions of Ukraine. The Russian Federation systematically blocks or complicates the passage of Ukrainian ships by the Kerch Strait: from the middle of May to the end of November 2018, more than 630 cases of their delay caused by Russia were recorded. As a consequence, there are considerable losses of Mariupol and Berdiansk seaports, as well as of carriers and manufacturers using their services. In the long run, the situation in the Black Sea and the Sea of Azov will remain tense. Russia can completely block the Kerch Strait for Ukrainian merchant shipping. This will lead to a significant loss of Azov Sea ports, but will not create critical risks across the country, as traffic flows are gradually redirected to Black Sea ports
Slowdown in the global economic growth
The IMF and the World Bank predict that in 2019 the world economy will slow down by 0.1-0.2 pp compared to 2018. According to the October estimates by the IMF, economic growth will decrease in a number of Ukraine’s major trading partners, in particular, in the eurozone, China, Poland, Turkey (by 0.2, 0.4, 0.8 and 3.1 pp respectively). Slowdown of the Polish economy threatens not only bilateral trade but also the volumes of transfers from labor migrants.
Deteriorating financial conditions for developing economies
According to the Institute of International Finance (IIF), in 2018 capital inflows to emerging economies, with the exception of China, fell by 30%. The reason is the rigid monetary and soft fiscal policy in the United States. A smaller inflow of capital has led to a drop in the shares of the countries concerned.
Ukraine is not an exception: in October 2018, the government placed sovereign Eurobonds at $ 2 billion with significantly higher revenues than a year ago. Given the fact that in 2019 Ukraine should repay significant amounts of external public debt, the government will have to re-enter the international private debt market.
High geopolitical and geo-economic risks
In 2019 there is a risk of escalating the US trade wars with China and other countries. As a result of negotiations between the leaders of the United States and China, raising tariff rates has been temporarily postponed, but not canceled. Tension in international economic policy (GEPU index) are growing due to the adoption of a populist budget in Italy and protests against increasing excise taxes on fuel in France.
Decrease in global commodity prices
In October-November 2018, oil prices dropped sharply by about 30%. This is due to the expansion of the proposal, expectations of a slowdown in the global economy and fears of possible over-saturation of the market. A positive consequence for Ukraine may be a reduction in the cost of gas, the dynamics of which with a certain lag correlated with oil prices, and the cost of imported energy in general.
According to the October forecast by the IMF, in 2019 prices for several groups of commodities will somewhat decrease. Prices for steel and iron ore will decrease as a result of supply and demand decline in China. At the same time, due to trade restrictions, further regionalization and partial isolation of markets will occur: access to the US market, where prices for metallurgical products are high, will be limited. Grain prices will remain close to current, at relatively low levels. All this can create risks for Ukraine’s balance of payments.
Currency payments for state and guaranteed debt
In 2019-2020, planned currency payments with interest will amount to $ 17 billion. Therefore, the key challenge for 2019 is how to attract enough resources to refinance external and internal liabilities.
The payout schedule is quite tense but manageable, subject to continued cooperation with the IMF. If Ukraine fulfills the program, the risk of a lack of funding will be significantly reduced.
The agreement with the IMF provides access to funds of other creditors, in particular the EU and the World Bank. Their loans will be used to finance budget needs. However, to fully cover funding needs, the government will be forced to place Eurobonds and actively attract resources in the domestic market.
The cost of new market borrowings is high. The situation on world debt market markets is not favourable, besides, Ukraine’s situation is complicated by double elections in 2019. As the placement of Eurobonds in Ukraine in October and the postponement of the placement of Naftogaz’s corporate Eurobonds in November, investors already require a significant risk premium.
The market situation shows that attracting funds for a long time will be difficult. In January-October, short-term instruments dominated both domestic and external borrowings. This increases the vulnerability of the government to interest rates and creates uncertainty in the management of public finances.
There will be another difficulty in 2019: state banks have to pay for Eurobonds about $ 1.1 billion. (in total percentages). Since they are the largest buyers of domestic public debt, the demand for government bonds may undergo significant changes.
Conservative budget for 2019
The balance of the state budget for 2019 was a key condition for launching a new program of cooperation with the IMF. The budget approved in November 2018 turned out to be realistic. The macroeconomic parameters laid down in its basis are more moderate than in previous years and are mostly consistent with the NBU’s forecast. This significantly reduces the risk that the budget will need to be adjusted or discontinued during the year
Risks to the revenue side of the budget may create the future dynamics of exports and imports and the transfer of part of the National Bank’s profit for 2018 (the Parliament approved UAH 47.6 billion, but the final amount will be known only a year after and may be different). It is also questionable to receive revenues from privatization.
Risks of the expenditure part of the budget are the size of the subvention to local budgets to provide benefits and housing subsidies to the population (gas prices for households increased, and the approved amount decreased from UAH 71 billion in 2018 to USD 55 billion in 2019) and possible additional requirements of the Pension Fund.
Influence of world prices on the real sector
In the real sector, the decline in profitability, which began in the third quarter of last year, continues. The main risks are the further increase in staff costs and the growth of interest rates on new loans. The largest sectoral risks in metallurgy and oilseed production are related to the decrease in world prices for the products.
In agriculture, risks are moderate. Livestock incomes continue growing. The decline in livestock has slowed down, except for pigs, due to outbreaks of African plague in different regions. The pace of production in poultry farming is increasing due to exports to the EU countries, so the risks for this industry are minimal.
Conducting reforms remains a key challenge for Ukraine in the coming years, because without significant improvement of the business and investment climate, it is not worthwhile to rely on inflow of investment resources and stable rates of economic growth. However, given that 2019 is the year of dual elections, it is useless to expect systemic reforms.