Ukraine: The Country and Its Banking System Andrew BLINOV Senior Economist International Centre for Policy Studies Budapest, 15 October 2003

Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web: УКРАЇНА UKRAINE Republic Independence: 24 August 1991 Territory: 603,700 sq. km Population (2001): 48.5 mln Capital: Kyiv (Kiev), 2.6 mln Administrative-territorial units: 24 oblasts, Autonomous Republic of Crimea, Kyiv and Sevastopol cities GDP per capita (2002, current rate): US$860 Number of licensed banks (2002): 157

Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web: Presentation plan 1.About the International Centre for Policy Studies 2.Macroeconomic Situation in Ukraine 3.Political Situation and Risks 4.Role of the Banking Sector 5.Non-Residents’ Share 6.Banking System Indicators 7.Risks and Challenges

About the International Centre for Policy Studies

What is the International Centre for Policy Studies? ICPS is an independent research organisation, founded by the Soros-funded Open Society Institute in 1994 Our goal is to promote public policy concepts and procedures in Ukraine ICPS works with different interest groups — government, business, NGOs, mass media Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

ICPS services We offer the following services: public policy research economic and business research political analysis training for policy process participants facilitation of public dialogue Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Research fields Economic policy Public administration reform and policy research Regional policy and local government European integration Educational and scientific policy Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Regular publications Quarterly Predictions — a quarterly overview of Ukraine’s economy and 3-year development forecast (the only product of its kind in Ukraine) Political Commentary — an analytical bulletin that evaluates Ukraine’s government policy and the various processes affecting it Consumer Confidence — a unique for Ukraine quarterly survey of household expectations, generating five standard indices Economic Statistics — a monthly table of statistical data that are important for doing business in Ukraine Regional Trends — analysis and forecast of regional development and regional policy Policy Studies — journal publishing the results of ICPS research on the most important issues of government policy, including an annual analysis of the impact of legislative changes on the business climate in Ukraine Information about ICPS services is posted on Internet shop launched in May 2003 Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Analysis of public policy alternatives and formulation of recommendations; analysis and development forecasts for specific markets Long-term forecast of macroeconomic and regional development indicators Impact analysis of company activities, particularly investment projects Analytical support for strategic planning Research on consumer behaviour Business services Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Macroeconomic Situation in Ukraine

GDP, real % change Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Factors prompting rapid growth in early 2003 A better price situation in global markets Increased capital investment to boost productivity, in response to increased competition on the domestic market More activity in construction Higher personal incomes paralleled by growth in personal deposits A surge in energy, gas, and water production and distribution, due to the cold winter Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Forecast for 2003 The rate of growth, which peaked 8.6% as of H1’03, will slow down to 6%: decreased agricultural output — poor grain harvest decelerated growth of global prices accelerated growth of imports compared to exports intensified political battles before the presidential election will stymie the realisation of quality government policy Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

GDP of Ukraine’s trade partners, and exports, % Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

GDP, consumption and investment % real change Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Foreign direct investments, millions USD Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Forecast of sector dynamics % real change Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Current account and trade balance millions USD Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Real effective exchange rate for H1’03 depreciated by more than 10%: this promotes export but can reduce import It is desirable to have yearly real depreciation rate within 5% ICPS has calculated the real hrynia effective exchange rate for Ukraine’s 12 biggest trading partners, who account for 2/3 of its foreign trade turnover. Since early 1998 it dropped by 65% Real effective exchange rate promotes development of foreign trade Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Nominal exchange rate UAH/USD Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Consumer prices will pick up by 6.5% in 2003: negative expectations regarding a decreased grain supply and a smaller harvest producers prices grow faster In 2004–2005, inflation will slow down to 5–5.5%. We expect tightened administrative pressure across Ukraine’s regions, aimed at maintaining price stability in The monopolies’ tariffs could be raised after the Presidential election in late 2004 Moderate price dynamics Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Price index dynamics, % annual change Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Political Situation and Risks

Foreign policy priorities (I) Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web: Despite the fact that Ukraine has declared almost 20 countries as its strategic partners, we consider Russia, the EU, and the USA to be the main vectors of Ukrainian foreign policy After a period of poor relations with the West and a drift towards Russia during 2001–2003, Ukraine is rapidly renewing its dealings with the USA and the EU

Foreign policy priorities (II) Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web: Joint projects with Russia: (1) Common Economic Area, (2) Gas Transport Consortium, (3) the Odesa–Brody Pipeline (transporting Caspian petroleum to Western Europe) Improving relations with the USA and the European Union is motivating Ukraine to carry out domestic economic and democratic reforms The EU considers Ukraine as its ‘new neighbour’ Ukraine sent its peacekeeping troops to Iraq (Polish sector)

Political competition Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web: In November 2002, the forming the Cabinet of Ministers on the parliamentary majority basis idea was realized—this improved the political competition in Ukraine The effectiveness of government policy is dubious: with insofar as pushing through tax and pension reforms, resuming privatisation of large enterprises, and fostering new market-oriented laws, Viktor Yanukovych’s Cabinet clearly lacks a consolidated strategy and is very passive concerning vital social issues, payments discipline, and reforms of monopolies Though Viktor Yuschenko of Our Ukraine bloc is the most likely to win the Presidency in 2004, changes in the Constitution could negate his advantage

Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web: Ukraine’s sovereign ratings AgencyRatingForecast Standard&Poor’s B Issuer Credit Rating — BStable Moody's Investors Service B2 Long-term bonds and notes — B2 B3 Long-term bank deposits — B3 Stable Fitch B+ Long-term foreign currency — B+ B Short-term foreign currency — B B+ Long-term local currency — B+ Stable Rating&Investment Information Inc. (R&I) B+ Long-term foreign currency — B+ Stable

Development at risk Economic development of Ukraine is still very vulnerable: failure to maintain a single, clearly set course of economic development unsatisfactory capitalisation of the economy low mobility in the workforce overly sluggish process of de-monopolisation weakness of many state institutions Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Risks to ICPS forecast The chief risks to the above forecast are: destabilised political situation prior to the 2004 election rapid integration of Ukraine into the Common Economic Area unlikelihood of good harvests in the mid-term abrupt deterioration among external markets a jump in domestic prices lower tax revenues than expected in 2004 Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Role of the Banking Sector

The banking system of Ukraine Leader in fundamental economic and technological change in Ukraine This sector is more dynamic than the economy as a whole Still not well integrated in international banking (as of 1 August 2003 assets amount to 16 billion USD, with capital totaling only 2,06 billion USD, compared with a GDP of 46 billion USD) Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Assets (total, active transactions reserves included) and liabilities to GDP Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Capitalisation of the banking system in Ukraine Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Profit, millions USD Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Closer watch over banking system Intensified after 1998 financial crisis Major issues: –more effective policy of bank insolvency and bankruptcy –increased minimum charter capital requirement –increased reserves under active transactions from 61% in 2000 to 96% in 2003 –toughening of liquidity ratios (economic normatives) –special attention to banks’ shareholders who own more than 10% and to loans to insiders Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Liquidated banks Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Number of banks in Ukraine Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Minimum charter capital requirement escalation According to the Law “On banks and banking activity”, since 17 January 2003 the minimum charter capital value should not be less than: –for nationwide Ukrainian banks — €5 million –regional banks — €3 million –cooperative banks — €1 million Later on, the National Bank of Ukraine plans to upgrade such requirements for nationwide Ukrainian banks (transactions in foreign currency allowed) up to €10 million Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Charter capital structure Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Non-Residents’ Share

Foreign capital banks role Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Foreign capital in the banking system of Ukraine Share of foreign capital in the charter capital of banks totals 13% There are 7 purely foreign banks, but actually – about 10: –USA: Citibank Ukraine –France: Credit Lyonnais/Credit Agricole Ukraine –Netherlands: ING Bank Ukraine –Germany: HypoVereinsbank Ukraine –Austria: Raiffeisenbank Ukraine –Poland: PEKAO Ukraina Ltd. –Russia: Alpha-Bank, NRB-Ukraine, Petrocommerz-Ukraine –Microfinance Bank Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Banking System Indicators

Balance capital structure Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Assets structure Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Liabilities structure Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Loans structure Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Income structure Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Expenditures structure Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Banking indicators and GDP growth % nominal change Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Loans to economy, billions UAH Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Bank deposits, billions UAH Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Risks and Challenges

Problems of the sector: exogenous factors Weak assets diversity (lack of financial instruments, weak non-bank financial sector, restrictions on capital flows) Poor adaptation to international standards, including Basel requirements Ukraine is still blacklisted by the FATF as a non-cooperative country Absence of a full-fledged register of borrowers and real estate The creditors’ rights need to be improved: borrowers have more rights Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Problems of the sector: inner factors Low level of financial mediation: credits to GDP ratio (as well as deposits to GDP ratio) is less than 25% Disproportionate rates of growth of individual deposits and loans to individuals, relatively high interest rates on deposits (significantly higher than on government bonds) Balance capital rates of growth are lower compared to money mass and liabilities Absence of long-term (5+ years) loans, lack of medium- term (1+ years) loans Large share of bank self-expenditures (often for non-bank activity) Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Tasks Increase capitalisation Improvement of management and internal audit quality Improvement of outside audit with more attention to the norms of international accounting standards Launch of new effective NBU system of control over banking risks Transparence of banking operations with more responsibility for bank secrecy disclosure Lobbying of indispensable legislation to improve creditors’ and investors’ rights Міжнародний центр перспективних досліджень International Centre for Policy Studies Tel Web:

Thank you for your attention

Ukraine: The Country and Its Banking System Andrew BLINOV Senior Economist International Centre for Policy Studies Budapest, 15 October 2003