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Feb 7, 2014 | 11:00 GMT

9 mins read

In Ukraine, Western Aid Has Limits

In Ukraine, Western Aid Has Limits
ALEXANDER NEMENOV/AFP/Getty Images
Summary

With offers of new financial and technical assistance for Ukraine, the European Union and the United States aim to strengthen the Ukrainian opposition's position in negotiations with President Viktor Yanukovich by showing that there are alternatives to Russian aid. Ukraine's long-standing financial difficulties are being aggravated by the current political crisis. For whoever is in charge in Kiev, securing financial assistance from abroad is a priority to stabilize the domestic economy.

There are several avenues by which the West can offer aid to Ukraine. However, demands for reform, lengthy procedures to approve aid, the European Union's own economic troubles and required coordination among states limit the European Union and United States' ability to match the financial and economic leverage that Russia has in Ukraine. Hence, to avoid a deeper financial and economic crisis, the new government in Kiev will still have to preserve strong financial and economic ties with Russia.

An important reason why Yanukovich did not sign the association agreement with the European Union in November 2013 is the mismatch between the limited immediate economic and financial benefits the European Union had to offer in comparison to the economic pressure and financial assistance Russia could bring to the table. Capitalizing on recent political unrest in Ukraine, the European Union is now trying to correct this and alleviate the economic and financial pressure the Ukrainian opposition faces, hoping to sway Kiev back toward the West. On Feb. 5, EU foreign policy chief Catherine Ashton met with Ukrainian leaders in Kiev and announced that the European Union could provide assistance to Ukraine in the form of expertise, technical ability and resources, but that any potential economic package would be contingent upon economic reforms.

Officials from both the European Union and the United States have said that the disbursement of financial aid is not imminent and would be tied to the implementation of a range of economic reforms and efforts to create political stability. Both U.S. and European policymakers have preferred a wait-and-see approach, opting to delay the official offer of a financial package until a new government is assembled, while floating the idea of new loans and technical assistance in the reform process as an incentive for Ukrainian decision-makers.

Ukraine's Economic Difficulties

Ukraine is in dire need of financial assistance. The country experienced zero growth in 2013. Moreover, Ukraine is heavily indebted and is unlikely to pay all its bills without the aid of new loans.

After Ukraine's decision not to pursue an association agreement with the European Union, Russia pledged to lend the country $15 billion, of which $3 billion has already been delivered in the form of purchases of Ukrainian bonds. However, the next tranche of $2 billion is on hold as the Kremlin assesses Ukraine's political crisis. Moreover, Ukrainian natural gas firm Naftogaz owes Russian energy giant Gazprom $3.3 billion for past natural gas deliveries.

Ukraine is also indebted to international institutions. In 2014, the country is scheduled to repay $3.7 billion to the International Monetary Fund and, according to Bloomberg, around $5.5 billion in sovereign debt will mature this year.

The Value of Ukraine's Hryvnia, November-February

Ukraine's government is struggling to repay its numerous debts at a time when its foreign currency reserves are dwindling. According to data from the International Monetary Fund, as of December 2013, Ukraine's foreign-currency and gold reserves amounted to $20.4 billion, and Bloomberg estimates that they dwindled to $18.8 billion at the end of January — the equivalent of less than three months' worth of imports. On Feb. 5, the country's currency fell to its lowest levels against the dollar since February 2009. These factors, along with Ukraine's political instability, will make it difficult for the country to stabilize its currency and meet its financial obligations without further aid from Russia or Western institutions.

What the West Offers

Although there are several ways for the European Union and United States to channel aid to Ukraine, a number of factors limit the West's ability to alleviate Ukraine's financial and economic troubles.

The European Union, through the Eastern Partnership Program, has long provided Ukraine with some financial aid. However, even if Kiev had signed the association agreement (a treaty designed to link the European Union with non-EU countries and provide a cooperative framework) and got access to more EU money through certain projects, the sums are small compared to what Russia has promised Kiev.  Between 1991 and 2010, total assistance to Ukraine from the European Union amounted to around 2.5 billion euros ($3.4 billion). Between 2011 and 2013, Ukraine was allocated only 389 million euros through the Union's European Neighborhood Instrument. 

Aid in the form of more social exchange programs and technical assistance for institutional reforms is something the European Union can offer relatively easily, because it comes at low cost. However, it would be difficult for the European Union to increase its financial contributions to Ukraine substantially. Europe is going through a deep economic crisis, and there is less money to distribute among the European countries themselves. The EU budget and national budgets have been cut, and diverting billions of euros to Ukraine while struggling eurozone countries like Greece or Portugal are in a constant battle for more aid would likely lead to greater tension among EU members. Ensuring cohesion in the European Union trumps the wish for Ukraine's Western orientation and is an important limiting factor to the Europeans' offer.

While high-level EU officials such as Ashton have raised the possibility of aid to Ukraine, leaders in countries such as Germany and France have shied away from committing funds. Pursuing a confrontation with Russia is not in the interest of most EU member states. Moreover, for Germany, safeguarding its bilateral relationship with Russia is an important strategic imperative.  Further, substantially increasing aid to Ukraine would likely require a lengthy debate among EU member states as well as individual parliaments. This could constrain the Europeans' efforts to help Ukraine with its immediate troubles.

The ability to offer Ukrainian companies easier access to the European market was one of the main reasons Brussels hoped Ukraine would sign the association agreement. However, the prospects of stronger trade ties to Europe do not help Ukraine deal with its current financial troubles or the economic pressure that Russia could put on Ukraine. Moreover, some industries, especially in the country's east, would initially experience dislocation if they integrated into a European market where their products are less competitive. Thus, these industries do not view abolishing trade barriers with Europe positively.

Apart from drawing on EU funds, institutions like the European Investment Bank or European Bank for Reconstruction and Development could be used to help Ukraine. For example, the European Bank for Reconstruction and Development is the largest foreign financial investor in Ukraine and spends over 900 million euros annually on projects throughout the country, according to bank reports. However, such institutions fund specific projects and hence would be of little use in helping Kiev pay natural gas bills to Russia or interest on Ukrainian sovereign debt.

The most potent tool the West has to help the Ukrainian government financially is the International Monetary Fund. Even before the current political crisis, Kiev was in lengthy negotiations with the International Monetary Fund over potential aid. However, no agreement was reached because Kiev was not willing to meet the fund's conditions, such as increasing domestic gas prices. The European Union and United States, through their voting power, could push the International Monetary Fund to reopen negotiations with Ukraine. Nonetheless, successful negotiations would be contingent upon the implementation of reforms. Disbursement of funds would strongly depend on both political stability in Ukraine and the willingness of future governments, regardless of political affiliation, to implement reforms that are unpopular among Ukrainian constituents across ideologies. 

Beyond the scope of aid through international institutions, support for Ukraine could come in the form of bilateral loans or prospects of greater investment. According to press reports, countries like Norway, Japan and Azerbaijan could contribute to the aid package that the European Union and United States are putting together, and U.S. energy company Chevron is still planning to invest $10 billion in the Ukrainian shale gas sector. However, Western governments can do little to pressure the private sector to invest in Ukraine. Investment decisions will depend largely on the evolution of political stability and regulation in Ukraine, as the country is currently known as having one of the worst investment climates in the region. Moreover, it is unlikely that individual countries other than Russia are willing to provide Ukraine with a multi billion-dollar loan since Ukraine is not as important to these countries as it is to Russia. Also, countries like Norway and Azerbaijan would have to balance their contributions to a Ukrainian aid package against a possible deterioration in bilateral relations with Russia.

What Russia Offers

Moscow has demonstrated Ukraine's great strategic importance to Russia on several occasions in recent months. Moscow threatened to harm Ukraine economically through trade restrictions but also offered Ukraine lower natural gas prices as well as a $15 billion loan after Kiev abandoned plans to sign the association agreement with the European Union.

While Russia has its own internal economic and financial problems brewing, Moscow has a number of advantages over the West when it comes to influencing Ukraine through financial and economic ties. Moscow has large reserve funds, which currently include approximately $685 billion in currency reserves and various sovereign wealth funds, from which it can draw quickly because of the strong centralization of power and decision-making. For example, Russia is drawing its new $15 billion loan to Ukraine primarily from the country's National Welfare Fund. In Europe, governments aiming to disperse aid to Ukraine would have to expect strong parliamentary opposition questioning the use of helping Ukraine at times of economic crisis in Europe, should the sum be too high.

Beyond direct financial aid, Moscow can use Ukraine's dependence on Russian natural gas to its advantage. A Ukrainian government favorable to Russia can profit from gas discounts and leniency on payment delays, while a Kiev that Russia considers more confrontational would have to expect a hike in gas prices or a cutoff of deliveries, making it more difficult for the new government to appease the domestic population. Further, Moscow could hinder cross-border trade between Ukraine and Russia to rally pro-Russian sentiment in Ukraine.

Russia has more incentive and more effective tools to influence the political orientation of Ukraine than the European Union or United States. Even if the West put together an aid package that would help a new Ukrainian government cope with some of the country's immediate financial needs, Moscow could bring new pressure to bear that could require the West to increase aid to levels unacceptable to Western domestic constituencies. Hence, despite the European Union and United States' efforts to strengthen the Ukrainian opposition in its negotiations with Yanukovich, any future Ukrainian government would have to preserve the accommodation reached with Russia in one form or another in order to restore political and financial stability in Ukraine.

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