1)Challenges Despite doubling of the FDI figures

1)Challenges & Prospects A.    Challenging FDI FlowDespite doubling of the FDIfigures from its frightening lows in 2014, the truth remains that projectedfigure of less than $1 billion in 2017 is a woeful fraction of the pre-crisis figureof $8.4 billion in 2012 (Appendix -Picture 10).However, a closer look at this trend suggests that the drop wasnot entirely crisis-driven, as the 50% drop witnessed between 2012 & 2013 hadalready set the stage for the ten-fold drop that occurred at the onset ofcrisis in 2014. Even more interestingly,the FDI levels appeared to recover in2016 hitting a $4.4 billion mark, before the current year’s precipitousdecline. A fine-grain analysis of inbound FDI composition will throwmore light on these observations.

This trend is characterized by adisproportionate tilt to politically risky sources such as recapitalization ofRussian-owned banks (many of which are currently seeking exits), transientspecial purpose vehicles (SPVs) designed for tax advantages which areultimately owned by Russian/Ukrainian investor and one-off transactionsundertaken by the likes of Arcellor-Mittal in the declining steel industry.Itis obvious that Ukraine’s attraction for foreign capital has been bound up in acomplex, which comprises of local oligarchy and Russia. FDI trends, thus have rarelybeen dictated by forward-looking opportunities in the Ukraine. Investments havebeen lacking in biotech, highly productive agriculture, pharmaceuticals,consumer goods and private education, which are so critical to these falloweconomic sectors. Considering the levels of corruption in the country andongoing instability in Donbas, these challenges seem to be even more critical.

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B.    Scaling Unemployment Rate&Complex Fiscal OutlookRecent projections suggestthat Ukraine’s unemployment will not ease below 8% till 2022 (Appendix – Picture 11). The slow growthin GDP is partially responsible for this high rate of unemployment, but themain causes are drying up manufacturing outputs and lack of service industriesin Ukraine. The business confidence rate & easy of doing business is on a steadyrise since 2015-2016, but on other hand corruption rank and competitivenessindex is not seeming to bein a healthy shape. All of these together are resistingthe unemployment rate for coming down. On the other hand, fiscal sustainabilityiscoming under pressure from lower social security contributions in 2016 &2017.The fiscal deficit in2016 was 2.2 % of GDP (this is excluding Naftogaz debtwhich is 2.

1 billion USD), this figure was below the mark set by IMF (3.7%) butstill on a higher side(Appendix – Picture12). In 2017, the fiscal deficit is projected to grow to 3.1% of the GDP.

One of the major fiscal weakness is in the shortfall of pension funds, which iscurrently at 5% of GDP and is continuously rising. The reason is again owningto declining social security contribution revenues which were at 5.5% of GDP in2016. Lastly, the increase in minimumwagesby government is adding to theproblem, and is widening this fiscal deficit further.

C.     Analysis Whilstthe ongoing IMF program has been justifiably focused on broad fundamentals, thereal sectors continue to face challenges with average mortgage rates at 30% andcommercial bank loans attracting an average interest rate of 18.5%.

These ratesare pushed by measures like mass forced insolvency of more than half ofUkraine’s banks since 2014, rise in inflation to 15%(way above the officialtarget of 9%) and a gradual easing of the monetary policy rate (hovering aroundthe 12.5% mark) which just two years ago was raised abruptly to 30%. Theeconomy growth (GDP) will remain positive but modest in coming years, no majoracceleration should be expected post 2017.Thedonor agenda – of which the IMF program is only one part – does not appearpoised to drive reforms fast enough due to the failure in correcting necessary structuralchallenges. To this date only 50% of EU macro-financial assistance package,which was worth$2 billion and was committed to Ukraine during the 2014-2015crisis,has been released due to weak absorption capacity and planning gaps.This is not entirely surprising, as a bigger package of $15 billion in loansand grants designed in 2013still remained largely un-deployed.

It is obviousthat whether it is lack in FDI, missing large-scale development cooperation orthe confidence of local investors, something deeply entrenched is eating away Ukraine’scapacity to mobilizethis large amount of capitaland is directly hampering the economy’sproductivity & prospects. 


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