Ukraine Business Forecast Report

Risks Rise Alongside Election Campaign Ukraine is set to encounter significant challenges in attempting to shore up economic stability through the medium term. Indeed, although the country's export sector should begin to see some respite from the current downturn amidst a tentative recovery in external demand from the eurozone, we caution that private household consumption will remain weak well into 2010, which will weigh heavily on the former Soviet state's growth potential going forward. With presidential elections scheduled for January 2010, we caution that not only will the second half of 2009 see a further breakdown in co-operation between the legislature and executive, but an uptick in tensions between Ukraine and Russia is also increasingly likely. Given the role that Kiev's relations with Moscow play in underpinning the former's risk profile, this will not bode well for Ukraine's ability to attract further capital inflows going forward.

Ukraine's domestic political environment remains in disarray. While MPs have hitherto managed to pass key pieces of economic legislation (most notably banking sector reform in late July), the broader policy-formation process has all but come to a complete stop. Indeed, after parliament recently failed to support the main opposition Party of Regions (PR)'s plan to increase minimum pensions and salaries in the country, MPs from the party once again physically blocked the parliamentary rostrum, thereby making the legislative process all but impossible. To be sure, the legislation that has made its way through parliament in recent months has been underpinned primarily by impetus provided by the IMF, with little willingness shown among the domestic political elite to address the burgeoning woes engulfing the economy.

Ukraine's banking sector remains one of the least stable in emerging Europe. Limited opportunities for external debt refinancing, the ongoing depreciation of the hryvnia, low public confidence in the sector, and the continued deterioration in asset quality will remain key challenges through the medium term. That the banking sector crisis has become increasingly reliant on government intervention also inspires little confidence. We project overall banking-sector assets to contract by 5.0% this year, and stress that a significant proportion of banks will be forced to engage in some form of debt restructuring going forward.

Ukraine will reduce its imports of Russian gas in 2010 by 24%, according to Prime Minister Yulia Tymoshenko. Tymoshenko said that the country would import 25bn cubic metres (bcm) of gas from Russia next year, compared with 33bcm in 2009 and 49bcm in 2008. The global economic downturn has caused industrial demand for gas in Ukraine to slump but, even so, an effective halving of imports of Russian gas in two years would be remarkable. With Ukrainian gas production forecast to rise from 20.5bcm in 2009 to 22bcm in 2010, and consumption forecast to rise from 58.5bcm to 59.4bcm over the same period, BMI sees the import requirement falling from 38bcm to 37.4bcm between 2009 and 2010. Although gas production volumes have the potential to surprise on the upside, thus creating downside risks to our import forecasts, we consider Tymoshenko's target for reducing Russian gas imports to be ambitious.