Emerging

Taking advantage of a favourable environment

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Eco Emerging // 2 quarter 2021  
economic-research.bnpparibas.com  
1
7
UKRAINE  
TAKING ADVANTAGE OF A FAVOURABLE ENVIRONMENT  
The country weathered the difficulties of 2020 relatively well, notwithstanding the recession that Covid-19 produced  
and the drying up of private capital inflows. Thanks to the improvement in the terms of trade, the current account  
surplus was sufficient to balance the existing gap. Over recent years, Ukraine has been able to improve its fiscal  
management, which helped to secure the support of international financial institutions. The challenge for the months  
ahead lies in a resumption of capital inflows and in the planned reforms to encourage investment and increase  
potential growth. It will be important to keep an eye on reforms in the banking sector, which relate both to the  
consolidation of the sector and to the improvement of the prudential and supervisory framework.  
FINANCING NEEDS ARE LIKELY TO BE COVERED  
FORECASTS  
Facing a massive shock, the Ukrainian economy has demonstrated an  
unusual level of resilience. Indeed, Ukraine saw its currency reserves  
increase in 2020, despite private capital inflows’ sudden stop. This is a  
new phenomenon in the country’s recent history. It has helped ensure  
that the Covid crisis has been weathered better than previous crises,  
such as those of 2008 and 2014.  
2019  
2020e  
2021e  
2022e  
Real GDP growth (%)  
3.2  
7.9  
-4.0  
2.7  
4.4  
7.5  
3.8  
5.7  
Inflation (CPI, year average, %)  
Gen. Gov. balance / GDP (%)  
Gen. Gov. debt / GDP (%)  
-2.0  
50.1  
-2.7  
78.7  
25.3  
4.0  
-7.5  
64.5  
4.6  
-5.5  
66.0  
1.1  
-2.5  
64.0  
-0.3  
73.9  
30.0  
5.1  
Although the country has not avoided recession and the public finances  
have come under pressure, it has managed to meet its financing  
needs. It was mainly done through the current account balance,  
which went from a deficit of USD 4.1 billion in 2019 to a substantial  
surplus of USD 6.6 billion (an improvement of nearly USD 11 billion).  
This improvement offset the drop in net inflows of private capital in  
Current account balance / GDP (%)  
External debt / GDP (%)  
83.4  
29.1  
5.7  
77.3  
31.4  
5.6  
Forex reserves (USD bn)  
Forex reserves, in months of imports  
2
020 compared to 2019, which was of a similar amount. Meanwhile,  
e: ESTIMATES & FORECASTS  
TABLE 1  
SOURCE: BNP PARIBAS GROUP ECONOMIC RESEARCH  
payments from international financial institutions came to only  
USD 3 billion, net of repayments of earlier loans.  
The improvement in the terms of trade and the structure of exports  
played a key role in the shift in the current account. The fall in exports  
was held at only 2%, whilst imports fell by nearly 11%, in part due to  
the fall in oil prices. Exports benefited in H1 2020 from strong demand  
for agricultural products (particularly cereals). After this, the industrial  
recovery seen throughout Europe in the second half of 2020 resulted  
in very strong growth in steel exports in volume terms, made even  
stronger in value terms as prices soared.  
However, the fragile nature of the balance of payments remains  
a significant topic for 2021. The current account surplus is likely to  
shrink, under the effect of falling cereal exports (drop in volumes) and  
rising oil prices. Meanwhile, even if private capital inflows resume, they  
will be partly offset by relatively substantial debt repayments, most  
notably the USD 4 billion debt maturing in the third quarter. Against  
this background, the country will require the continued support of the  
IMF.  
TERMS OF TRADE (EXPORT PRICES OVER IMPORT PRICES): Y/Y CHANGE  
25%  
20%  
15%  
10%  
5%  
0%  
-5%  
10%  
-
-15%  
13  
14  
15  
16  
17  
18  
19  
20  
21  
However, it is possible that the planned USD3 billion will only be  
partially disbursed, with the February tranche already having been  
delayed. Given that the country will have to repay USD 1.5 billion  
to the IMF, net receipts could be limited. Even so, the prospect of an  
CHART 1  
SOURCE: CEIC, BNP PARIBAS  
allocation of Special Drawing Rights (SDRs) by the IMF could more If IMF payments resume as planned, and the allocation of SDRs comes  
than cover the shortfall: given Ukraine’s quota in the IMF, nearly rapidly, the modest rise in the hryvnia since the beginning of the  
USD 4 billion could be allocated (even before taking into account year could continue despite a growing inflation differential. Inflation  
the possibility that advanced economies could forego their share in accelerated to 7.5% year-on-year in February 2021 (from 2.6% in  
favour of emerging economies). This would help address the challenge October 2020), due mainly to the prices of food, electricity and gas.  
of covering financing needs and suggests a fresh increase in foreign Monetary policy may be tightened beyond the 50bp increase in interest  
currency reserves over time.  
rates implemented in 21Q1 (from the record low level of 6%).  
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nd  
Eco Emerging // 2 quarter 2021  
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IMPLEMENT FURTHER BANKING REFORMS  
YIELD CURVE  
The monetary policy easing in the first half of 2020 (500bp cut in  
the policy rate) allowed bank lending rates to be reduced to record  
lows. This helped bolster lending growth in 2020, over and above the  
existing subsidised loan schemes (the so-called 5-7-9 plan), which,  
despite being expanded, accounted for only 0.5% of GDP. Bank lending  
to the non-financial private sector increased by 9% based on a constant  
perimeter (see next paragraph). However, this lending growth against  
the background of a recession suggests new non-performing loans to  
come, for which banks have made provisioning. This situation led the  
central bank to introduce various measures. It extended into 2021 a  
programme that in 2020 had resulted in the restructuring of 10% of  
consumer loans and 7% of business loans. The risk weighting associated  
with consumer loans should be increased in 21H2 from 100% to 150%.  
Convergence towards Basel and EU standards is likely to resume, after  
marking time in 2020. Lastly, an asset quality review and stress test  
exercise will involve the 30 biggest banks.  
1
5%  
13%  
11%  
9%  
7%  
5%  
3
mois  
1 an  
18 mois  
2 ans  
3 ans  
6 ans  
These stricter rules look necessary given that the banking system has  
in the past generated significant volumes of non-performing loans,  
with a lengthy resolution. Thus in 2020, banks were still restructuring  
CHART 2  
SOURCE: REFINITIV, BNP PARIBAS  
non-performing loans that appeared in 2015-16. These still stood at INCREASING POTENTIAL GROWTH  
4
1% of total loans by the end of the year, from 48.4% in 2019. Moreover,  
Ukraine also needs to focus on attracting Foreign Direct Investment  
the final average recovery rate remains low (9% according to the World  
Bank).  
(
FDI), in order to limit its external debt (83.4% of GDP in 2020) but also  
to enhance potential growth. FDI inflows recovered in 2016 but dried  
up again in 2020. In order to attract future investment, the government  
has passed a new law in 21Q1 guaranteeing the stability of the legal  
framework (rule of law). It is also giving foreign investors tax breaks,  
exemptions from import duties, and preferential property taxes. The  
aim of this law is to move up the value chain, by making industrial  
sectors eligible and including businesses in the extractive industries  
The reduction of the frequency of non-performing loans and the  
effectiveness of the restructuring of those that do arise are the  
driving forces behind the legal reforms that the government wants  
to introduce in order to improve the legal security of loans issued and  
the transparency of financing in general. These reforms also form  
part of the IMF’s conditions for the next tranche of aid to Ukraine.  
The difficulties experienced in introducing them also explains the  
disbursement delay of the February 2021 tranche of the IMF’s loan to  
Ukraine.  
(
e.g. iron ore) only if processing and enrichment takes place in Ukraine.  
Recent years have brought early successes, notably in the field of IT  
services, but Ukraine needs sustained investment in its physical and  
human capital, which has been held back by a series of crises. Thus  
total factor productivity only regained its 2008 level in 2019. At the  
INCREASE FISCAL SPACE THROUGH LOWER DEBT  
In the recent past, the cleaning up of the banking system has created same time, the capital stock (notably infrastructure) has dwindled  
a substantial cost and contributed to the deterioration of the public steadily over recent years, when measured at constant prices. Lastly,  
finances. After the 2015-16 crisis, the country’s main bank, PrivatBank, the number of people employed has also fallen over the past few years,  
had to be nationalised. Now, the constraints that Ukraine faces with the emigration of more highly-trained workers. The net result  
in financing its needs make it necessary to look towards reducing of all this is the limiting of potential growth that now needs to be  
government debt in future. The high level of interest rates on the addressed.  
hryvnia, reflecting the level of risk, is a drag on this process as it  
Completed on 9 April 2021  
incentivises external borrowing denominated in currencies with lower  
interest rates. However, it exposes to a risk of an increased debt service  
in the case of hryvnia depreciation.  
In parallel, government debt is likely to continue to rise in 2021, towards  
6
rd  
6% of GDP. The continuation of the Covid-19 epidemic, with a 3 wave  
observed in March 2021, and the slow roll-out of vaccinations in  
Ukraine, suggests that the bulk of the stimulus programme will remain  
in place in 2021. The government deficit will remain high, at 5.5% of  
GDP, from 7.5% in 2020. Moreover, whilst IMF support in 2020 served  
directly to finance the budget, an allocation of SDRs can only benefit  
the central bank. This would suggest that until IMF support payments  
resume, the government will have to finance itself on the domestic  
market at higher interest rates. The scale of interest expenditure, at  
3
.5% of GDP in 2021, shows the need to reduce borrowing in order to  
increase fiscal space.  
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