November 28, 2023

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Ukraine’s international partners are sounding the alarm about the mounting pressure on Kyiv’s public finances as Russia’s invasion drives down tax revenue and its allies struggle to provide rapid financial support.

The US Treasury warned that emergency measures such as money-printing being used by Kyiv to prop up its public finances risked damaging its ability to provide critical public services over time, underscoring the need for allies to meet commitments to provide tens of billions of dollars of grants and cheap loans as quickly as possible.

EU finance ministers meeting in Brussels on Tuesday agreed on a fresh €1bn emergency loan for Ukraine, but they are struggling to land an agreement on a wider package for the country.

Valdis Dombrovskis, European Commission executive vice-president, said Ukraine was facing “massive short-term financing needs” and more work was needed to meet them. He urged EU member states to provide financial guarantees sufficient for the commission to advance a planned €9bn package to Kyiv.

Ukraine’s budget crisis has become acute because of a slump in tax revenues and customs duties since the invasion began almost five months ago together with higher war spending.

A halt to grain and steel exports has deprived Kyiv of foreign currency earnings. Ukraine is being forced to burn through its foreign exchange reserves at an accelerating pace, as the central bank purchases government bonds to plug its financing gap.

The G7 and EU have announced official financing commitments to Ukraine worth $29.6bn. According to Dragon Capital, a Kyiv-based investment bank, Ukraine’s allies and international financial institutions have thus far disbursed $12.7bn to the country.

EU leaders in May pledged additional support of up to €9bn, on top of a previous €1.2bn emergency loan; they are still negotiating how to structure that financial support. Officials warn the EU’s full assistance package is unlikely to be settled before the August break.

Germany in particular has been questioning the idea of providing all of the assistance in the form of loans, diplomats say. Berlin has already contributed bilateral support of €1bn to Ukraine, and on Tuesday it backed the EU’s additional €1bn loan.

The German finance ministry said the commission would put forward a further proposal to reach €9bn and that as soon as this was available, it would be assessed by the member states. “Together with our international partners we stand by Ukraine,” it added.

Oleg Ustenko, an economic adviser to Ukraine’s president Volodymyr Zelenskyy, said the country now needed $9bn a month from its western backers to plug the budgetary shortfall, almost double its previous request.

The finance ministry said its assessment of the gap was still $5bn a month but even that was way more than western capitals had so far provided.

But Ustenko said Ukraine needed an extra $4bn a month for the next three months to cover the cost of emergency accommodation and housing repairs for millions of people and to fund a basic minimum income for people who have lost their jobs.

“We will try to survive in any case, but without financial support from our allies it will not only be difficult to do so, it will be next to impossible.”

The fiscal strains are showing more broadly. Naftogaz, the state-owned energy company, on Tuesday asked holders of $1.5bn of its bonds to accept a delay in payments as it seeks to preserve cash for purchasing gas. It would amount to the first default by a Ukrainian state entity since the war began.

The Naftogaz move may signal a change of approach by the Ukrainian government to its foreign bondholders. Until now, Kyiv has refused to reschedule its debt payments, saying it was important to maintain the confidence of international investors.

Ukraine’s central bank said last week that it had used up $2.3bn or 9.3 per cent of its international reserves in June alone, partly because it is monetising the deficit at an increasing pace.

The National Bank of Ukraine bought $3.6bn worth of government bonds last month, more than double the $1.7bn rate for April and May. The central bank still has enough reserves to cover three months of imports.

The US on Tuesday announced an extra $1.7bn in direct economic assistance to the government of Ukraine. “This aid will help Ukraine’s democratic government provide essential services for the people of Ukraine,” Treasury secretary Janet Yellen said as she announced the support.

US international development agency USAID and the Treasury have provided $4bn in direct budgetary support to the Ukrainian government, meaning they are halfway towards the total commitments made under bipartisan legislation.

Additional reporting by Guy Chazan in Berlin