November 4, 2012
Further deterioration in the external environment and weakening support from domestic drivers of growth weighed on Ukraine’s real sector performance in July. Thus, fears over the Eurozone sovereign-debt crisis, worries of a fasterthan- expected slowdown in Asian economies and worsening trade relations with Russia, the largest trade partner of Ukraine, hit the export-dependent industries and sectors in July through weaker external demand and world commodity prices. Industrial production fell by 0.9% yoy that month, led by 8.6% yoy and a 7.4% yoy decline in metallurgical and machine-building output, respectively.
On the domestic front, construction activity dropped by 6.2% yoy over January-July. In addition to the completion of large infrastructure projects related to the Euro-2012 football championship, the sector suffers from subdued credit growth this year. Agriculture, which was one of the principal contributors to economic growth in 1H 2012, showed a 4.3% yoy decline in January-July as the high statistical base due to a 2011 record harvest took its strong effect in July. On the upside, domestic consumption continued to drive GDP, underpinned by a 15.5% yoy increase in real wages over the first seven months of the year. Thus, retail sales turnover picked up by 17.4% yoy in January-July. While we expect domestic consumption to remain strong through the rest of the year, less favorable conditions for investments and agriculture and a challenging external environment will cause a moderation of economic growth to about 1.5% yoy in 2012.
Consumer prices fell by 0.3% in August compared to the previous month, the fourth consecutive monthly decline. In annual terms, however, the index indicated the price level remained unchanged compared to August last year. As a result, full-year inflation may be the second or the third lowest in Ukraine’s independent history. Low inflation this year will be the result of a good harvest, government reluctance to raise gas and utility tariffs ahead of elections as well as a tight monetary stance. Moderate growth in monetary aggregates over the first eight months of the year is attributed to the NBU forex interventions to support the Hryvnia exchange rate and tight control over banking sector liquidity. These measures, coupled with administrative restrictions on domestic demand for foreign currency, will keep the Hryvnia exchange rate virtually stable while the interbank rate may fluctuate within a ±2.5% band, unofficially set by the NBU.
Ukraine’s Balance of Payments returned to a $0.9 billion surplus in July as a $2 billion sovereign Eurobonds issuance and continuing inflow of short-term foreign capital (e.g., trade credit) more than compensated for a wider current account deficit in July, stronger population demand for foreign currency and high external private debt payments. Moreover, exports resumed growth in July, expanding by 7.6% yoy that month, underpinned by a 66% yoy surge in oversea shipments of agricultural commodities. As export of these commodities only started to gain momentum in July, further improvement in export performance may be expected in the coming months, despite a challenging environment for other key commodity exports (e.g., steel).
Thanks to successful sovereign Eurobonds issuance in July and September, a partial rollover of a $2 billion VTB loan and solid privatization receipts, Ukraine has progressed in addressing near term fiscal needs despite a rapidly widening fiscal deficit. Thus, in July, state budget revenue growth sharply decelerated in January-July to 10.5% yoy, down from 17% yoy in 1H 2012, suggesting a decline in revenues in July. At the same time, expenditures accelerated to 14.4% yoy. As a result, the state budget deficit widened to UAH 17 billion in January-July, almost twice as large as last year. Hence, although Ukraine has secured sufficient financing for short-term fiscal needs, after the elections the government may need to take measures to be able to finance the deficit and sustain its public debt.
Ukraine Macroeconomic Situation. August 2012