Ukraine eyes IMF, Russian rescue from recession

Recession and crippling energy inefficiency compounded by a stiff Russian gas bill are turning Ukraine into an economic headache on the eastern edge of Europe with few prospects for a recovery this year. The ex-Soviet nation of 46 million -- a one-time breadbasket with historic ties to Russia but aspirations to become a part of the EU -- is now hosting an IMF mission in the hope of securing relief. The International Monetary Fund's prescription for Ukraine is simple: end wasteful gas subsidies so that big businesses can stop burning through state cash and turn into competitive exporters of metals and machines. But Ukraine's ability to comply with the IMF is limited by an indecisive government and a muscular business lobby that has no interest in seeing its energy bill balloon. The year "2013 is going to be a particularly challenging one for the Ukrainian economy," the Vienna-based Erste Group warned in a country report. At issue is $12 billion in IMF assistance that has been approved but not fully disbursed because of Ukraine's refusal to swallow a painful remedy of cuts and spending freezes.The size of the country's energy problems is on a scale unseen elsewhere in Europe. Standard and Poor's called Ukraine "one of the most gas-intensive economies in the world." "Currently, Ukraine is believed to suffer between 30 percent and 50 percent loss of energy used, mainly due to outdated and inefficient communal systems and pipes," the S&P country report said. "Without reform, the gas market will compromise credit quality," the ratings agency cautioned. Kiev's recipe for solving its energy troubles implicitly involves eastern neighbour Russia -- a supplier of more than half of Ukraine's energy and a country frequently accused of using pipelines as a diplomatic weapon. Russia has not only rejected Ukraine's request for lower prices but also tabled a startling $7 billion bill for gas that Kiev allegedly promised but failed to buy. The claim came on the same day Ukraine struck a $10 billion "unconventional" shale gas development project with Shell -- timing that most viewed as more than mere coincidence. "Quarter after quarter, (state oil company) (Ukraine state energy company) Naftogaz failed to consume all the gas under contract -- and Gazprom said nothing," Sberbank Investment Research analyst Valery Nesterov observed. Ukraine has already rejected the Russian gas giant's fee and the matter is unlikely to be settled by the courts before the end of the year. But analysts said Gazprom's demands drove home Russia's intent to pile the pressure on Kiev just as it teeters on the edge of outright economic collapse. "Fitch expects that Gazprom will maintain high import prices for Ukraine over the medium term," the Fitch Ratings noted. Ukraine has already seen what failure to act can do. Year-on-year GDP growth slowed to 0.2 percent in 2012 -- the last six months witnessing quarterly contractions of 1.2 and 2.7 percent. Its industrial production imploded by 7.4 percent in December while construction fell nearly 14 percent on the year. Things look gloomy for 2013 as well as Ukraine combs for cash to pay off $10 billion in maturing debt while bridging its gaping balance of payments deficit. Analysts worry that the combined effect of these problems and Ukraine's dual standoff with the IMF and Russia could deplete central bank reserves and send the hryvnia currency into a devaluation that wipes out savings and sees protests on the streets. Some note that reforms may in fact be more difficult to achieve this year than they were in 2012 when the country's growth was boosted by tourism and investment in the summer's Euro 2012 football championship. Erste has already revised down its 2013 growth forecast to 1.5 from 3.0 percent. All this gloom may be lifted should the IMF report positive progress after completing its latest review in Kiev on February 12. But economists point out that the IMF missions have been coming to Kiev and leaving with hollow Ukrainian promises for the past two years. "It is likely that this visit will end without the parties reaching an agreement," Moscow's VTB Capital investment house said.