November 3, 2012
According to early State Statistics Committee of Ukraine estimates, real GDP growth accelerated to 3% yoy in 2Q 2012, up from 2% yoy in the previous quarter. The acceleration may be attributed to stronger private consumption, an earlier harvesting campaign and co-hosting of the Euro-2012 football championship. Thus, loose fiscal policy and record low inflation underpinned a 16.5% yoy increase in real wages in 2Q 2012 compared to about 14.7% yoy in 1Q 2012. Thanks to strong real wage growth and the European football tournament held in June, retail sales picked up by 16% yoy over January-June 2012, while output production in food processing maintained growth momentum, advancing by 3% yoy in June.
Agriculture production, which was up by 28% yoy in June compared with 2.5% yoy a month before, helped offset weaker construction and industrial sector performance. With the completion of infrastructure upgrade projects related to the Euro-2012 football championship, construction declined by almost 9% yoy in June 2012. Renewed Eurozone sovereign debt woes and slowing world economic growth weighed on world commodity prices, which fell sharply in June. In addition, domestic lending remains sluggish, constraining economic activity. As a result, Ukraine’s industrial production declined by 1.4% yoy in June on weaker performance of export-oriented and capital intensive industries. Thus, the chemical industry lost steam, expanding by about 6% yoy in June from almost 15% yoy a month before. Output in metallurgy, machine building and manufacturing of construction materials fell by about 1% yoy, 9% yoy and 5% yoy in June, respectively. Although robust domestic demand will continue to support economic growth through the rest of the year, due to a more subdued global growth outlook in 2H 2012 and sluggish domestic credit growth than we initially expected, real GDP growth is forecast at around 2% yoy in 2012.
Ukraine witnessed a drop in its consumer prices in July, for the third consecutive month. In annual terms, however, the index fell by 0.1% in July compared to 1.2% the previous month. Slower decline may be attributed to an easing favorable statistical base impact on food prices and increases in railway transportation and phone service tariffs. Considering price developments from January to July 2012, our year-end inflation forecast was adjusted downwards to 6% yoy.
May-July 2012 showed that within the NBU’s complex policy mix of stimulating anemic credit growth and maintaining the Hryvnia exchange rate peg to the US Dollar, the latter target has prevalence over the former. To contain currency movements in July, the NBU continued to intervene in the foreign exchange market by selling almost $1.2 billion of its international reserves on a net basis and keeping banking sector liquidity tight. Liquidity constraints and high credit risks pressured credit rates upwards and affected credit availability for the real sector. The stock of bank credit grew by only 3.8% yoy in June and was only 0.1% higher since the beginning of the year.
The Balance of Payments switched to a $1.5 billion deficit in June amid higher external debt repayments and a worsened current account. While a deficit on the financial account was anticipated, the deterioration in the current account balance was sharper than expected. Weaker overseas demand and falling world commodity prices caused deep declines in exports of metals, chemicals and mineral products, which together accounts for more than half of Ukraine’s exports. Although agricultural exports kept growing at a solid pace, total export of goods fell by 11% yoy in US Dollar terms in June compared to a 9.6% yoy increase the previous month. A financial account balance is expected to turn into a surplus by July thanks to successful issuance of $2 billion of sovereign Eurobonds. Despite a favorable near-term outlook, Ukraine’s BoPs will remain under pressure in the short and medium term due to high external financing needs amid a challenging external environment.
At the beginning of 2Q 2012, Ukraine amended its state budget law to implement generous social spending increases. Unlike expectations, compensatory measures, such as a wealth tax, were not introduced. However, robust revenue growth and control over ‘non-social’ expenditures helped keep the state budget deficit 40% lower in 1H 2012 than in the respective period last year. Near-term fiscal financing needs have eased thanks to robust privatization receipts, a $2 billion Eurobond issuance and a VTB loan rollover. However, public finances are likely to remain strained in the short-term as the annual state budget revenue target looks overly optimistic, given slower economic growth and inflation than projected by the government, reliance on NBU profit transfers to the budget, and expected acceleration in expenditures through the end of the year. A notable increase in state budget guarantees at the end of July adds to fiscal sustainability concerns. Hence, solid fiscal consolidation measures will be needed to ease these concerns after the elections.
Ukraine Macroeconomic Situation. July 2012