IMF Reform Postponed Over Ukraine
In order to more quickly transfer the funds of Western tax cows to the Ukraine, the US senate has apparently decided to drop an IMF reform clause from the aid bill. According to the FT, the IMF chief, Ms. Lagarde, was less than happy about this development:
“The measure would have shifted $63bn towards fulfilling US obligations to the IMF under a new system that increases the body’s lending capacity and gives emerging markets a bigger say. The reforms were agreed by the G20 in 2010, but cannot take effect unless the US approves them.
The Obama administration and congressional Democrats felt the Ukraine crisis offered an opportunity to force the issue, given that Ukraine was likely to benefit from access to IMF funds. However, Republicans held their ground, warning that the stand-off could drag on for weeks unless Democrats backed down.
This reality prompted Democratic leaders in the Senate to concede defeat and relent on their demand, on the grounds that further delay in aiding Ukraine would send a “dangerous message” to Russia. “It’s impossible to know whether events would have unfolded differently if the United States had responded to Russian aggression with a strong, unified voice,” said Harry Reid, Senate majority leader.
The decision by Senate Democrats was greeted with dismay at the US Treasury and the IMF. “We are deeply disappointed by the news that Republican opposition has forced the Senate to remove the IMF quota and governance reforms from the Ukraine assistance package,” a Treasury spokeswoman said. “Despite this setback, we remain committed to providing the IMF with the resources it needs as well as updating the Fund’s governance to reflect the global economy.”
Meanwhile, Christine Lagarde, IMF managing director, said she too was “deeply disappointed that the necessary legislative steps have not been taken by the US Congress to allow these important reforms to be implemented without further delay”. Ms Lagarde said she hoped the US authorities would give the matter “the high priority it deserves”.
(emphasis added)
In a separate statement, Ms. Lagarde also mentioned that there is actually no hurry to decide on IMF assistance to the Ukraine and that the government in Kiev is exaggerating the urgency (the IMF's experiences with the Ukraine are decidedly 'mixed'. Reform promises were not kept).
“The head of the International Monetary Fund said on Friday that there was no need to "panic" in terms of delivering economic aid to Ukraine, as she cast doubt the nation would need as much immediate help as its new leaders claim.
"We do not see anything that is critical, that is worthy of panic at the moment," IMF Managing Director Christine Lagarde told reporters. "We would certainly hope that the (Ukrainian) authorities refrain from throwing lots of numbers which are really meaningless until they've been assessed properly."
Ukraine's government coffers have been depleted by huge debt repayments, efforts to protect its currency and high energy costs. The country's new leaders, appointed after President Viktor Yanukovich was ousted last weekend, say they need $35 billion over two years to avoid default, and may need $4 billion immediately.
Yanukovich, fearing a political backlash, avoided unpopular economic policies recommended by the IMF, such as letting the hryvnia currency float and phasing out costly energy subsidies. He managed to secure a $15 billion aid package from Ukraine's former Soviet master Russia last year, but only $3 billion has been disbursed and the rest is in doubt. Yanukovich's government fell after weeks of street protests against his government and closer ties with Russia.
Now, support from the Washington-based IMF is seen as critical to shore up Ukraine's collapsing finances and get its economy on the right track. The United States and European Union say they are willing to provide funds alongside an IMF program. Russia also supports the Fund's involvement.
An IMF team is set to arrive in Kiev early next week to collect information and start working on a loan program. "I think it's highly premature to assess financial needs, numbers here, numbers there," Lagarde said after meeting with German Foreign Minister Frank-Walter Steinmeier. "We need to rely on facts, we need to rely on the situation as it is."
(emphasis added)
We are not surprised that 'Russia also supports the fund's involvement'. Russia is going to save a big chunk of money compared to its previous arrangement with the Yanukovich government and is currently probably quite happy to let the West foot the bill.
Currencies – Hryvnia Crashes All Over Again, Ruble Recovers a Little
What is however most interesting is the market reaction to these latest developments. When it became obvious in late February that the Ukraine would eventually get a lot of money from the IMF and the EU (reportedly the EU wants to throw about $15 billion into the black hole), the Ukrainian hryvnia strengthened considerably from its initial crash, while the Russian ruble continued to weaken. This has recently changed however – the hryvnia is back in full-scale crash mode, while the ruble has begun to strengthen somewhat:
The hryvnia crashes all over again, in spite of news of imminent IMF aid – click to enlarge.
The ruble's short term trend appears to be slightly changing for the better – click to enlarge.
Economic Sanctions
The fact that the ruble is strengthening a bit is especially interesting considering that the Ukraine aid bill will also contain further sanctions against Russia. Meanwhile, US companies that export to Russia have already seen orders drying up, as Russian companies look for sources that are less likely to be cut off by sanctions. To be sure, direct trade between the US and Russia is quite small, but it was growing strongly, nearly doubling since 2010. Companies that benefited from this growth in trade can wave these benefits good-bye now. Sanctions always tend to hit those hardest who have the least to do with the events that prompted the sanctions:
“U.S. exports to Russia reached $11.2 billion last year, or just 0.5% of total U.S. exports, but they've nearly doubled since 2010.
Rising tension between the two countries is prompting some Russian businesses to pull back. Also, since January, the ruble has fallen in value against the dollar, making U.S. goods more expensive in Russia.
Paulson says his company sold face shields valued at $500,000 to Russian police departments last year — about 10% of all his exports and 2.5% of his total sales. But he says the firm had to painstakingly build relationships and clear bureaucratic hurdles to win that business and has been hoping to sell a new product line — face shields for electronics uses.
"We see (Russia) as a tremendous growing market for our business," he says.
Radi Al-Rashed, CEO of International Chem-Crete Co. of Dallas, says that two weeks ago his dealer for Russia and Ukraine placed on hold a $432,000 order for the company's product, which is used to prevent airport runways and roads from freezing.
"We worked hard for two years to increase our exports and now we have this crisis and…we don't know what's going to happen," Al-Rashed says. A sharp drop-off of his Russian sales could cut revenue by about 20%, he estimates.”
One reason why we picked out the above excerpt is that one cannot stress often enough that 'countries' do not trade with other. People do – therefore, economic sanctions always hit the livelihood and prosperity of individuals that happen to reside in the countries concerned – and it is never just a one-way street either. No doubt many Russians will also feel the pinch, either directly or indirectly – but the actual object of the sanctions, Vladimir Putin, is not hurt by them at all. On the contrary, his political popularity has shot upward like a Soyuz rocket. Considering president Obama's approval rating has recently hit a new all time low, we can state that Western politicians can only dream of such approval ratings at this juncture. Regardless of whether one thinks Putin 'deserves' to be punished, this isn't going to do it.
“The approval rating of Russia's president Vladimir Putin has soared 15 points since January 1 to 75.7% of Russians supporting him. Putin's political opposition was already pretty dispirited, but the Crimean annexation has permitted Putin to crush the opposition in polling.”
Frankly though, who cares? For the average citizen these things are largely irrelevant. We only mention these poll results because they underscore that economic sanctions as a rule end up punishing the wrong people, precisely because economic relations are never between disembodied 'countries' but always between concrete individuals.
Ukrainian Politics
What happens to the IMF and EU funds that will be sent to the Ukraine remains to be seen. We continue to hold that the country's economy cannot be improved by handing money to the government. Soon there will be elections in the Ukraine, and thereafter it will be possible to better assess the political situation, but it is already clear that the new government will face the same economic pressures the Yanukovich government faced as well.
What is unknown at this point is how much electoral support the extreme right wing parties will enjoy this time around (their support was in a strong upward trend previously) and how kleptocratic the new government will turn out to be. In order to improve the Ukraine's economy, reforms will be needed that may well be unpopular (inter alia the removal of price controls).
Primarily though the country needs to establish a trustworthy institutional backdrop, a climate in which property rights are adequately protected and no longer subject to the whims of a corrupt political class. It is to be wished that the Ukrainians succeed in this and it must be conceded that it would never have happened under Yanukovich.
There is however no reason whatsoever to believe a priori that anything will materially change, considering the history of Ukrainian governments to date (as things stand, kleptocratic governments have been led by both Western and Eastern Ukrainian parties). Arseny Yatsenyuk appears to be a well-meaning and somewhat colorless technocrat, and as such may well turn out to be different from his predecessors – but it is not clear how big his electoral appeal will be.
Meanwhile, another leaked phone call shows that some of the Western Ukraine's major political figures are indeed largely defined by their hatred for Russia – below are a few quotes from a conversation between 'gas princess' Julia Tymoshenko and Ukrainian MP and former government official Nestor Shufrych:
“Ukraine's former prime minister Yulia Tymoshenko was plunged into fresh controversy on Tuesday after Russian television broadcast a tape where she is heard urging the "wiping out" of Russians over Moscow's seizure of Crimea.
"I am sorry that I am not able to be there and am not in charge of these processes, they wouldn't have had a fucking chance of getting Crimea off me."
This really crosses all the boundaries," Tymoshenko is heard to say in the leaked phone call posted on YouTube and broadcast extensively on Russian television Monday. "One has to take up arms and go wipe out these damn 'katsaps' together with their leader," the voice said in Russian, without mentioning Putin by name. The word "katsap" is a derogatory Ukrainian term for Russians. "I would have found a way to finish off these bastards," the 53-year-old leader of the 2004 pro-democracy Orange revolution was heard as saying.
"I am hoping that I will use all my connections and will get the whole world to rise up so that not even scorched earth would be left of Russia." Discussing the fate of Ukraine's eight million ethnic Russians with Shufrych, Tymoshenko was also heard as saying that they should be "nuked".
(emphasis added)
Is it any wonder that there are animosities between ethnic Russians in the East and the Western nationalists? Imagine you are an ethnic Russian living in the Crimea of elsewhere in the Eastern Ukraine – wouldn't you wish to be outside the orbit of a powerful politician who thinks you 'should be nuked'? We have of course little doubt that if one were to listen to conversations between people opposing the nationalists, their sentiments about their opponents wouldn't sound much different.
That Western powers believe they should make this conflict their business is however likely yet another in a series of foreign policy blunders of recent years (depending on one's definition of 'blunder'. We can e.g. not rule out that the destabilization of the Middle East is a deliberate strategy). What can already be stated with certainty is that is will be extremely costly, regardless of the ultimate outcome. Costly mainly for tax payers of course, not for the people strutting on the international stage who are 'throwing their weight around' in 'our' name.
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