Russian and Ukrainian Transition in Comparative Perspective

The Context: Similarities and Differences Similarities Cultural, historical, institutional Initial conditions of transition Trends in economic policy and reform Differences Oil and gas reserves Geographic advantages for Ukraine Tradition of government: Weaker in Ukraine

Similarities in macroeconomic performance Early 90s: sharp industrial decline, high inflation, instability. Limited progress in stabilization interrupted by 1998 financial crisis. Demonetized “virtual economy” in the latter 1990s. Rapid growth, monetization, and other positive trends since 2000 (growth slowing in 2002 and accelerating in 2003).

Similarities in economic policy and reform Early 1990s: Quasi-fiscal subsidies through the banking sector and state budget. Mid-1990s: Quasi-fiscal subsidies shifted to energy and state budget (deficits). Majority of state assets privatized by latter 1990s Major campaigns to eliminate budget deficits and money surrogates in 2000, followed by other significant measures to improve budgetary and tax systems. Recent monetary policy based on implicit exchange rate targeting to the dollar.

Similarities in institutional development Increasing concentration of activity in financial-industrial groups Entrenched insider control during most of the 1990s, followed by the rapid emergence and growth of a market for corporate control and increasing outside ownership High managerial turnover since late 1990s Demonetization in the late 1990s followed by very rapid monetization Rapid growth in commercial banking and credit Acceleration in restructuring Growing competition (including competition between FIGs)

What is the source of such strong similarities in Russian and Ukrainian Economic Performance? Hypothesis 1: Ukraine remains so highly integrated with Russia that its economic performance simply mirrors that of its larger neighbor. Hypothesis 2: External factors for both countries have been similar: growth since 2000 explained by depreciated currency, excess capacity, and high commodity prices for exports Hypothesis 3: Similar initial conditions, policies, and reforms. Along with favorable external factors, recent growth reflects policy changes that improved economic incentives and facilitated institutional development in both countries

Evidence for hypothesis 1 is rather weak Trade volume between Ukraine and Russia recovered in 2000, but did not grow very fast from Capital inflows to Ukraine have been quite small. Russian subsidies to Ukraine have diminished significantly. Remittances of Ukrainian workers from Russia have been significant, but still of limited impact.

Evidence for hypothesis 2 is stronger Recent growth in both countries in export and import-substituting industries. Slowdown in growth associated with rising costs (real appreciation) and rising marginal costs (diminishing excess capacity). Acceleration since 2003 linked to much higher commodity prices. Yet growth in Ukraine from was not export-led.

The evidence for Hypothesis 3 is also strong Surveys indicate a fundamental change in the incentives and orientation of firms and managers. a)From macro-stabilization. b)From changes in the allocation of explicit and implicit state subsidies. c)From the imposition of financial discipline. d)From improvements in the tax system. e)Less favoritism of particular business groups. f)From an overall policy commitment to the development of markets, re-enforced by institutional changes.

Challenges for the sustainability of growth Measures to combat the insider economy and encourage financial-industrial groups to “come clean.” Problems in government administration and interbudgetary relations. Competitiveness and restructuring Vulnerability to external shocks (Diversification) Holding the course on basic reform strategy