Despite the violence in the east of the country, Ukraine’s future as an FDI-friendly location depends largely on the actions of the government headed by newly elected president Petro Poroshenko. Years of large-scale malfeasance culminated in the country ranking alongside the likes of Zimbabwe and Afghanistan in business friendliness rankings. The government of former president Viktor Yanukovych, at first seen to be earnestly trying to improve the business environment, witnessed FDI levels continually dropping.
“I must say that Ukraine had gained a bad reputation among potential investors way before Euromaidan [the wave of demonstrations that led to the resignation of Mr Yanukovych],” says Dušan Kulka, CEO and senior consultant with US communications firm Bermann Group.
Thirst for change?
The change of government, sealed with the election of new president Mr Poroshenko, holds hope that officials will make good on a groundswell of popular desire for actual change. The interim government of acting president Oleksandr Turchynov and acting prime minister Arseniy Yatsenyuk has made some progress. However, the change has been heady at times.
“This is a seismic shift in Ukraine. The old system was rotten to the core,” says Graham Conlon, global co-head of international private equity and head of corporate and mergers and acquisitions in Ukraine at UK-based law and tax advisory CMS Cameron McKenna. “Everything now depends on the will of the people and the people in power. But there is a sense of 'we do have to clean it up' these days.”
The interim government made headway in reconnecting with international financial institutions such as the International Monetary Fund. The Yatsenyuk cabinet, in particular, readily enacted a series of long-awaited belt-tightening measures and, on April 30, 2014, just over 60 days from coming to power, the government was able to secure IMF approval on a $17bn stand-by arrangement. The first tranche of $3.2bn was disbursed in early May, with the next tranche slated for July, pending review. A close eye will be kept on governance, as “decisively breaking with problematic past governance practices” is one of the key factors of the arrangement, according to IMF statements.
The signing of a political agreement with the EU, followed by unilateral moves by the EU to drop tariffs on Ukrainian goods, has been hailed as another important step. However, the signing of the economic side of the agreement, which is expected to occur after parliamentary elections later this year, will seal Ukraine’s decision to move toward Europe. The consequences of the signing, especially for the eastern oblasts with their heavy industrial base and their involvement in the manufacture of military hardware for Russia, is expected to include a massive modernisation.
Eyes on government
While media attention lies on the conflict in the east of Ukraine, the business community is watching closely the government’s attempts at improving the country's business environment. Corporate raids involving hostile takeovers became a thing of the past when Mr Yanukovych left office. However, observers are pointing to inefficiencies impeding the progress of cases that are already before Ukraine’s cumbersome judiciary, which has been perceived as suffering from widespread corruption.
“We talked with Mr Yatsenyuk and submitted to him a list of 90 cases; 35% have been positively closed to date [mid-May] and in terms of percentages that sounds fine, but each particular case remaining is important because each one still has a major impact on a business,” says Anna Derevyanko, executive director at European Business Association in Kiev.
Ms Derevyanko notes that although the government has made many changes in tune with those expected by the international financial institutions, other areas remain untouched. “We cannot say that corruption is being removed in the ministries yet,” she says, although she also emphasises that companies that place a value on operating cleanly and with attention to the legal foundation of their efforts in Ukraine will have fewer difficulties if there are problems later. “If you’re clean, then there are tools available such as the European Banking Authority and embassies,” she says.
The phone still works
Just as the onus is on the company to secure its legal foundation, incoming businesses to Ukraine might find themselves tending to other issues to fight inefficiency. Communication is one example offered by Ms Derevyanko. Even the receipt of letters and emails does not imply follow-through. “In the end, you have to revert to the telephone,” she says.
The government is making attempts to streamline its communication processes. Despite the uncertainty of the pre-election period, departments of the Ministry of Economic Development and Trade overhauled their procedures in mid-May. Time will tell if efficiency increases, but the effort might be an indicator of the change in mindset.
“There is a new breed, a paradigm shift,” says Mr Conlon. He adds that the Yanukovych administration had “lost credibility in the eyes of investors, and even if it conceptually got FDI, it could never get the message across. Now, [the Ukrainian government] is actively looking for help regarding the investment climate and it is reaching out to business organisations such as the European Banking Authority and the American Chamber of Commerce.”
Others point to the need for qualitative changes in what is being communicated in the first place. “There is one 'recipe' that comes to mind from the point of view of investment promotion,” says Mr Kulka. “InvestUkraine must be absolutely honest and transparent with potential investors and offer only selected 'corruption free' locations. The agency also needs to assist investors in the initial phase of their projects, when most bribe requests occur, and make sure investments are successfully implemented while corrupt officials end up in jail.”
No matter how much effort is made, however, the damage from the previous government’s actions, the reorientation of the economy in Europe and the attacks on Ukraine’s territorial integrity will impact the economy. The loss of Crimea alone wipes 1.3% from Ukraine’s GDP, though in budget terms the autonomous republic was a net drag on revenues.
According to the Kiev-based Institute for Budgetary and Socio-Economic Research (Ibser), real GDP for Ukraine in 2014 is projected to fall by 3%, and in consumer prices at 8.5%, in terms of the year-on-year average. “Balance of trade will undergo a revision as well, as Ukrainian-Russian fuel and energy trade declines. Also, the difficulty in getting the spring planting under way might affect revenue from agricultural exports later this year," says Marina Shapoval, a senior economist in the financial policy department at Ibser. She also notes that by implementing belt tightening now, Ukraine could see a GDP rise of 2.8% in 2015.
"The 'pain' of overhauling the economy towards a European orientation may be a significant impetus for the gradual improvement of the quality and competitiveness of Ukrainian products," says Ms Shapoval.
Most forecasts assume that the eastern oblasts of Luhansk and Donetsk will remain part of the country. Following the elections on May 25, the Ukrainian military stepped up operations against separatists there and as of the end of May, containing the unrest seems likely. However, the impact on FDI is significant.
“Even in 2011 to 2013, there were still people who were looking at Ukraine, and these [people] have been put on hold for now. Now that the elections are over, once the situation in the Donbas region is settled, these companies will return pretty quickly. However, the spread of violence is a risk and companies are watching carefully,” says Mr Conlon.
Even after the unrest ends, observers such as Mr Kulka expect the war of words to continue. However, the impact on FDI might not be as bad as some would imagine. "The perception of Ukraine as a high-risk country is not the result of the propaganda war," says Mr Conlon. "As already stated, a free-trade agreement with the EU, systematic implementation of political and economic reforms and excellent work of the national investment promotion agency can change the picture step by step.
"Also, the government should not forget that the best promotion of the country’s investment attractiveness are referrals from companies already located in Ukraine.”