A Sad Lack of Growth Prospects
All indicators suggest that 2016 will see GDP growth of 1.2% y/y . The bad news is that this minor rise is primarily due to a low comparative base, after two years of contraction. Unfortunately, we don’t see solid evidence that growth will continue.External demand, traditionally at the core of the Ukrainian economic growth, promises to be sluggish, amid declining resource prices, the Russian embargo on Ukrainian food imports and the abolition of the free trade agreement.Domestic demand is unlikely to lead a recovery. Moreover, any investment boom is unlikely to make its way to Ukraine, given widespread corruption and the authorities’ lackluster efforts to leave the old system behind. Indeed, it looks as if 2016 will be a year of stagnation. Economic developments will largely depend upon deregulation progress, reform of the judicial system and prosecutorial bodies, and the tax administration and customs services.
The 2016 budget was approved with a debt cap of 3.7% of GDP, a pre-determined figure in line with IMF demands.A realistic spending plan means Ukraine will get the green light for continued borrowing from the Fund, and other IFIs. The Parliament passed at least three other key reforms.First, the payroll tax was cut to 22%, from 37%. Second, the electronic public procurement system Prozorro, which proved extremely efficient in its trial stages, was approved for compulsory use for all public procurement contracts.Finally, Parliament lifted a policy of secrecy for Ukrainian citizen bank account holders who receive state benefits. The idea behind this latter reform is to open this information to public and official verification, to protect against fraud.
We expect the CAD to widen to $3.8 billion (4.4% of GDP) in 2016, up from the $1.4 billion (1.6% of GDP) estimated for 2015. These figures are a consequence of Ukraine’s import and export dynamics. As the position of imports improved on the back of the abolition of 5%-10% of previous import duties, exports continued to struggle. But we do expect that capital flows will keep improving, based on IMF funding, while the halted outflow of portfolio and other investment should further contribute to improving the capital flows situation. More capital influx should boost gross international reserves to $23 billion (or 5.4 months of imports), up from the $13.2 billion (3.3 months of imports) expected by the end of 2015.
The hryvnia is certain to experience depreciation stress, with a widening CAD playing a fundamental role.As the Central Bank is committed to a free-floating currency, we do not expect the monetary authorities to prop up it (though they may smooth out volatility). We expect the hryvnia to slip to 27 per $1 by yearend.
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