consultations with UKRAINE

Background Document by the Secretariat

1.  This document has been prepared in accordance with paragraph 12 of the Understanding on the Balance-of-Payments Provisions of the GATT 1994.

1  RECENT MACROECONOMIC AND TRADE DEVELOPMENTS

1.1  Real sector and prices

2.  Ukraine's economy was severely affected by the global economic crisis, with GDP declining by 14.8% in 2009. In 2010 and 2011, the economy improved, with GDP growing at rates above 4%, aided by stronger exports and a recovery in investment and private consumption. Higher spending was fuelled by increasing credit and an incomes policy that redistributed windfall export revenues to the population. However, the economy slowed down in 2012, posting growth of just 0.3%, and contracted slightly in 2013, mainly on account of the increasingly negative contribution of net exports of goods and services (Table 1).

3.  In 2014, GDP is estimated to have contracted by 7%; all major GDP components, except government expenditure. The decline in investment and household consumption was particularly pronounced, 24.4% and 25.5%, respectively in the third quarter of 2014 with respect to the same period the previous year. This reflects the Central Bank's tighter monetary policy stance, with credit contracting after years of substantial growth. The resulting overexposure of the banking system to private credit, led to bank interventions by the National Bank of Ukraine (NBU), and finally to the closure of several banks (see below). Reflecting domestic demand weakness, imports of goods and services contracted by some 31.5% over the same period, while exports declined by 12.1%.^[1] Government expenditure, on the other hand, increased by some 4.4% but this was partly due to the conflict in the eastern part of the country.

Table 1 Basic economic indicators, 2009-14

..            Not available/not applicable.

a             Excluding Crimea and Sevastopol.

b             Since 2004 data are presented including lending less repayments.

Source:   National Bank of Ukraine (online information); and IMF online information, "International Financial Statistics". Viewed at: http://elibrary-data.imf.org/DataExplorer.aspx.

4.  Due to the past policies of easy credit (see below), Ukraine's economy became increasingly dependent on consumption, including imports. Final consumption by households and the Government accounted for over 70% of GDP in 2013 and 2014; a large share of this consumption was made up of imports. Government spending represented some 17.8% of GDP in 2014. The gross capital formation/GDP ratio, on the other hand, has remained low, shrinking to just 13.7% in January‑September of 2014. However, despite a sharp contraction in 2014, domestic absorption (including imports) has remained high leading to a substantial deficit in the current account of the balance of payments, which has been exacerbated by lower pipeline transportation income (see below). Between 2009 and 2013, the deficit in the current account of the balance of payments increased sharply, from 1.5% of GDP to 9.1%, before declining to an estimated 3.5% of GDP in January-September of 2014.

5.  Insufficient investment has resulted, on the other hand, in a rather morose domestic production scenario, which combined with the policy of easy consumption credit have contributed to a deterioration in the current account. Considering the evolution of value added by activities, as Table 2 shows, the most affected productive sectors in recent years have been water, sewerage, and waste management; construction; transportation and storage; and manufacturing, while most other services activities have performed better. However, some of the better-performing services such as real estate and health, are either non-tradable or have a rather small tradable share.

Table 2 Gross Value Added by Kinds of Economic Activity (SNA - 2008)

(At constant prices of 2010, in % of corresponding period of the previous year)

(1)          Agriculture, forestry and fishing; (2) Mining and quarrying; (3) Manufacturing; (4) Electricity, gas, steam; (5) Water; sewerage, waste management; (6) Construction; (7) Wholesale and retail trade; (8) Transportation and storage; (9) Education; (10) Health and social work; (11) Finance and insurance; (12) Real estate; (13) Public administration and defence.

Source:   National Bank of Ukraine, Macroeconomic indicators, Gross Domestic Product, at: http://www.bank. gov.ua/files/GDP_e.xls.

6.  Inflation fell considerably between 2009 and 2012, from 12.3% to -0.2%, and remained low in 2013, but accelerated sharply in 2014 as price increases were triggered by the depreciation of the hryvnia, rising administratively regulated prices and tariffs as a result of pressing economic reforms and a deterioration of market expectations. The consumer price index rose by 17.5% year-on-year in September 2014, compared to 0.5% in December 2013, and by 24.9% year‑on‑year by the end of 2014.

1.2  Fiscal accounts

7.  Ukraine has run a fiscal deficit in every year during 2009-14. The deficit reached its peak in 2010, when it was 6% of GDP; it fell subsequently in 2011 and 2012, years of faster economic growth. The deficit has deteriorated since then mainly as a result of the conflict which started in the eastern part of the country. An important contributor to the overall public sector deficit is the deficit posted by the gas company Naftogaz. Fiscal deficits have also complicated the balance‑of‑payments situation.

8.  In an April 2014 Letter of Intent to the IMF, Ukraine announced the introduction of a number of fiscal measures, both to reduce spending and to increase revenue. These measures included administrative measures to enhance revenue, such as: fighting tax evasion; limiting the entry point of imports to official checkpoints; strengthening control of alcohol sales; enforcing debt collection; tightening VAT compliance verification; conducting tax audits; and enhancing efforts to collect utility payments to improve the financial situation of Naftogaz.^[2] Other measures to enhance revenue introduced in 2014 included: suspending the application of the zero VAT rate to export operations of grain and industrial crops during 1 April–30 September 2014; increasing fees on the use of mineral resources and broaden the base; increasing excise tax rates, and expanding tax bases; introducing a reduced 7% VAT rate on pharmaceutical and medical products; and improving tax administration. A number of expenditure-reducing measures were also introduced, including: maintaining the level of minimum wage during 2014 (undoing an approved increase) and reducing employment by attrition; maintaining pension levels during 2014; rationalizing social assistance spending and capital expenditure; rationalizing subsidies to enterprises; and enhancing the efficiency of public procurement.

9.  These measures proved, however, insufficient to lower the deficit substantially. Although they led to a contraction in expenditure, tax revenues underperformed due to the contraction of economic activity, and their ratio to GDP fell from 30.4% in end-2013 to 29.9% in September 2014. In August 2014, the authorities recalibrated their estimated general government deficit in light of the shocks facing the economy and sent a new Letter of Intent to the IMF.^[3] The recalibration aimed at a larger structural fiscal adjustment of 2.6% of GDP during 2014–16, compared with the original programme target of 2%, to compensate for the widening in Naftogaz's deficit. This would translate into headline general government deficits of 5.8% of GDP in 2014 (0.6% higher than initially envisaged), 3.9% of GDP in 2015 and 2.7% of GDP in 2016. The target for the combined deficits of the general government and Naftogaz was revised to 10.1% of GDP in 2014, 5.8% of GDP in 2015, and 4% of GDP in 2016.

10.  After declining as a share of GDP between 2009 and 2013 (from 88.3% to 78.1%), total gross external debt climbed to some 98.6% of GDP by October 2014, on account of the devaluation of the hryvnia. This percentage has increased dramatically since the decision to float the hryvnia in early 2015, and by February 2015, the gross external debt/GDP ratio, had climbed to some 225% on account of the strong depreciation of the hryvnia. Most of this debt is external debt of the domestic private sector.

1.3  Exchange rate

11.  The exchange rate, which operated as a de facto peg to the US dollar until the end of 2007, moved to a managed float in late 2008. However, as depreciation pressures continued, the National Bank of Ukraine increasingly supported the exchange rate through foreign exchange market operations accompanied by regulatory changes, including strengthening controls on operations of repatriation of foreign investments out of Ukraine. By 2010, the NBU had in practice returned to a policy of de facto peg to the US dollar.

12.  In the 2011-12 period, the NBU kept the exchange rate of the hryvnia to the US dollar pegged at the rate of UAH8 to US$1 through large scale foreign exchange market operations. The NBU held to a policy of supporting the exchange rate in its quest to maintain price stability, considering the high import content of domestic demand. This policy had, however, a high cost, and became unsustainable as the external imbalances resulting from the accumulation of large current account deficits in previous years created considerable devaluation pressure and foreign exchange reserves dwindled. This was aggravated in 2013, by social and political tensions that caused a capital outflow from the country and a deposit outflow from the banking system. The NBU felt considerably pressured to abandon its defence of the exchange rate and let the currency float.

13.  In February 2014, the NBU announced its decision to adopt a flexible exchange rate regime. This had immediate implications for the hryvnia to dollar interbank exchange rate, which shot from UAH8 per US$1 to UAH 13.6058 per US$ in the period January - August 2014. However, since the float adopted by the NBU was a managed one, the Bank continued to set the indicative hryvnia exchange rate and held foreign exchange auctions to support it. On 5 February 2015, the NBU stopped these practices and decided that the exchange rate would be set by banks based on the objective parameters of market demand and supply (see below).

14.  After the introduction of the free float, the exchange rate depreciated considerably, reaching UAH 25/US$ in February. This led to a halving of the dollar value of GDP to some US$60 billion, leading, as mentioned above, to a substantial increase in the debt/GDP to ratio to an estimated 225%.

1.4  Monetary and Financial Sector Policy

15.  During most of the 2009-14 period, the National Bank of Ukraine led an expansionary monetary policy, which resulted in strong credit growth and propped up private and public consumption. This was partly a result of the policy implemented to defend the exchange rate, which required selling foreign exchange and creating a hryvnia counterpart. Despite the considerable amount of credit made available, lending rates remained high making repayment of debts difficult. The high cost of credit led to increasing defaults, a loss of confidence in the banking sector and eventually resulted in bank interventions and withdrawals of operating licenses.

16.  Most Ukrainian banks posted net losses in 2014, due to an increase in loan loss provisions, which displayed a 3.7-fold increase from the previous year, with their share in total expenses climbing from 16.7% to 39.3%. In many cases, banks lost the property pledged as collateral in mortgage loans, as well as other assets serving as collateral for other types of loans. This had implications for the quality of the loan portfolio and prompted the need to implement contingency measures to deal with this quality loss. Excluding losses by banks that had been declared insolvent and those that had been placed under provisional administration by the Deposit Guarantee Fund, the banking sector made a loss of UAH33.1 billion in 2014. The NBU adopted a two-pronged policy consisting of purging the banking sector of those banks that had undertaken inordinately risky activities, on the one hand, and of injecting additional capital into sounder and more viable banks, on the other.

17.  In late December 2014, the NBU approved a methodology for determining systemically important banks, through NBU Board Resolution No. 863 "On Approval of the Procedure for determination of systemically important banks".^[4] It was decided that systemically important banks would be designated annually using a mathematical model based on certain criteria including the total volume of assets, the liabilities of legal entities and individuals, the volume of interbank lending, and the volume of lending to key sectors of the economy. The Resolution, which came into effect on 1 January 2015, designated eight banks as systemically important. In accordance with Resolution No. 863, the systemic importance of a bank does not create an obligation for the state to participate in its capitalization.^[5] The Resolution mandates the NBU to develop specific regulations for the supervision of systemically important banks setting, among others, additional capital requirements for them. The NBU plans to do this gradually.

18.  Following its policy of purging the banking sector of banks which have undertaken inordinately risky activities, the NBU has been including risky banks in the "insolvent" category in the last months of 2014 and first months of 2015. This has been followed in some cases by a decision to wind them down. The main rationale behind the decision to classify a bank as insolvent is the insufficient capitalization of the bank, its failure to meet the stress test capital requirements and inability to bring its operations in line with applicable Ukrainian laws. The decision is taken after the NBU has examined the capitalization terms proposed by the bank shareholders, and has found them inappropriate. In the six months between September 2014 and end-February 2015, some 16 banks were declared insolvent.^[6] Since the beginning of 2014 and in the first two months of 2015, the NBU adopted a decision to dissolve and revoke the licence of 26 banks^[7] and decided the disposition of all assets and liabilities held by JSCB KYIV PJSC to another state-owned bank.

19.  Monetary policy was tightened in 2014. The National Bank of Ukraine announced a monetary policy framework for 2015 in September 2014, which sets mid-term monetary policy objectives.^[8] The stated priority was to achieve and maintain price stability defined as an annual inflation rate, measured as a variation of the CPI, within a 3-5% range in a midterm horizon of 3 to 5 years. The goal was to ensure a gradual decline in the inflation rate and to achieve the mid‑term inflation target by 2018. The policy framework set intermediate goals for changes in the CPI: 9% by the end of 2015, 7% by the end of 2016 and 5% by the end of 2017. The stated main risks to meeting short-term monetary policy objectives and benchmarks arise from developments in eastern Ukraine. The adoption of an inflation targeting regime, planned for the second half of 2015, is expected to contribute to the achieving of the mid-term target.

20.  In the process leading to inflation targeting, the NBU decided to start by setting the regulation of monetary base as operational monetary policy benchmark, with a goal of 20% growth for 2015.^[9] Other targets included monetary performance criteria and recommended net international reserves levels. The effectiveness of monetary policy tools would be enhanced by maintaining a flexible exchange rate, allowing, however, for the possibility of interventions in the foreign exchange market.^[10]

21.  On 5 February 2015, the NBU announced that, as part of the run-up to the adoption of the inflation-targeting regime, its Board had adopted a decision to modify the operational framework for monetary policy implementation and enhance monetary policy efficiency and transparency for market participants. The main changes introduced included:

22.  making the discount rate more instrumental as the benchmark monetary policy rate;

· stopping, effective from 5 February 2015, the practices of holding foreign exchange auctions and setting the indicative hryvnia exchange rate. The exchange rate is to be determined now by market forces.

23.  The NBU considers that strengthening the role of the discount rate as the benchmark monetary policy rate will help eliminate uncertainty, enhance the effectiveness of the price-setting mechanism for lending resources and making foreign exchange available in the interbank market, and make monetary policy more effective.

24.  At the same time, the NBU decided to tighten the monetary policy stance and, effective from 6 February 2015 raised the discount rate from 14.0% to 19.5% per annum, adjusting also interest rates on NBU's liquidity-providing and liquidity-absorbing operations.^[11] The Ukrainian authorities consider that a tighter monetary policy will help stabilize the money market and contribute to price stability, paving the way to bring inflation down to single digits in 2016. According to the NBU's forecasts, CPI inflation will stand at 17.2% at the end of 2015. In its decision, the NBU also considered that higher interest rates would have little impact on business activity in the real economic sector, as bank lending activity remained considerably subdued. The NBU considers that actual GDP could reach potential GDP (currently there is an 8-9 percentage point gap) in the mid-term only if macro-financial stabilization is achieved, and that a more rigid monetary policy would play a key role in it.^[12]

25.  Mainly due to an increase in the rate of inflation, following the flotation and subsequent depreciation of the hryvnia, on 2 March 2015, the NBU announced (Resolution No. 154 of the NBU Board of 2 March 2015) that it was increasing its discount rate from 19.5% to 30% per annum as of 4 March. The NBU also increased, as of 10 March, reserve requirements for banks to reduce the spare liquidity in the banking system and help curb deprecation pressures. The NBU also announced that it would actively use sterilization instruments to absorb the excess liquidity generated in the banking system due to the provision of resources to the Deposit Guarantee Fund for the compensation of depositors of liquidated banks and for any financial support to Naftogaz and to the state budget, which would, however, be minimized.^[13]

1.5  Balance of Payments

26.  Ukraine's current account of the balance of payments showed increasing deficits between 2009 and 2013. In this last year, the deficit increased to a record level of US$16.5 billion, equivalent to 8.7% of GDP (Table 3). The growing deficit reflected mainly a sharp increase in imports of goods and services (of around 80% in value in US dollars) amidst a more moderate increase in exports (57%). In 2014, both exports and imports shrank considerably: exports by some 20% and imports by some 27%. This resulted in a contraction of the current account deficit in US dollars terms, to US$5.3 billion, or 4% of GDP.^[14] However, this was accompanied by a shift in the position of the capital and financial account from surplus to deficit (see below).

27.  According to balance-of-payments data, merchandise exports decreased by 15% in 2014, to US$55.3 billion, due to the effect of a decline of exports to the Russian Federation, lower prices for Ukraine's major exported goods, such as grains, and a decline in exports of metallurgical products driven by lower metal prices in the wake of depressed global demand. Exports to the Russian Federation dropped by 34.7% (see below), while exports to the EU increased by some 2%. Exports of all categories of goods as defined by Ukraine contracted: agricultural products by 2%, minerals by 19.1%; chemicals by 26.1% (influenced by a halt in production in factories in the conflict area and a shortage of gas supply); timber and wood products by 5.9%, industrial goods by 7.7%; ferrous and nonferrous metals by 13.2% (mainly due to decrease in export prices for ferrous metals) machinery and equipment by 29.2% (mainly due to lower exports of railway locomotives to the Russian Federation).^[15]

28.  Merchandise imports contracted by 28% to US$61.3 billion in 2014. The decline of non‑energy imports was influenced by the depreciation of the hryvnia and weak domestic demand, while energy imports dropped (by 40.5%) driven by lower prices and volumes of imported gas. All import categories contracted in 2014: agricultural products (-26.1%); mineral products (-28.2%); chemicals (-20.2%); timber and wood (-31.6%) industrial products (-28.6%), ferrous and nonferrous metals (-33.4%); and machinery and equipment (-38.0%). Imports from the Russian Federation declined by 44.7%, primarily due to lower gas imports (-63.1%); imports from the EU declined by over 20%.^[16]

29.  Ukraine traditionally runs a services balance surplus due mainly to its surplus in transportation and some professional services. This has helped offset the structural merchandise trade deficit. The surplus in transportation (some US$4 billion in 2013) is primarily due to pipeline transport (surplus of US$3.3 billion in 2013). Since the beginning of the conflict in the Eastern part of the country, this surplus has been shrinking considerably due to infrastructure destruction in eastern Ukraine and economic activity decline: in the first half of 2014 it fell by some 20%. This surplus declined further in the second half of the year, resulting in a sharp contraction of the services balance surplus, from US$4,383 million in 2013, to US$687 million in 2014 (Table 2). The deficit in the income balance contracted to US$1.3 billion in 2014 (compared with US$3 billion in 2013) due to lower dividend payments for foreign direct investment (by 69.1%). The surplus in transfers decreased to US$1.5 billion in 2014 (from US$2.1 billion in 2013).

Table 3 Balance of Payments, 2009-14

(US$ million)

Note:       Analytical presentation.

a             Excluding Crimea and Sevastopol from Q2/2014.

b             Preliminary data.

Source:   Central Bank of Ukraine online information.

30.  The financial and capital account deficit registered in 2014 (US$8.0 billion) was caused primarily by repayments on arrears for gas by NJSC "Naftogas of Ukraine", by a shrinking inflow of investment and loans in Ukraine. This compared to a US$18.5 billion surplus in 2013. Net payments on loans and bonds amounted to US$2.2 billion in 2014, while in 2013 there were inflows of US$7.3.6 billion. The rollover of private sector external liabilities (loans and deposits) amounted to 86%.

31.  International reserves continued to decline rapidly in the last months of 2014 and the first months of 2015 (Table 4). As of 1 December 2014, international reserves declined to US$10 billion, covering 1.8 months of future imports. As of 1 February 2015, preliminary data show that the stock of international reserves stood at US$6.42 billion, equivalent to less than a month of imports.^[17] This result was influenced by the settlement of the Government's foreign debt obligations in January 2015 (US$624 million), together with declining exports at a faster pace than imports and foreign exchange interventions to support the hryvnia (US$518 million).^[18] Given the impossibility to continue intervening in the market to support the exchange rate, the NBU announced on 5 February the decision to stop the auction of foreign exchange and a switch to a purely market determined float. Foreign exchange auctions were stopped.

Table 4 International reserves (end of period), 2009-15

(US$ Million)

Source:   Central Bank of Ukraine.

2  Agreements with the IMF

32.  Between 2008 and early 2015, Ukraine concluded three Stand-By Agreements and one Extended Facility Agreement with the International Monetary Fund (IMF) to help restore financial stability.

33.  The Executive Board of the IMF approved in November 2008 a two-year Stand‑By Arrangement (SBA) for SDR 11 billion (about US$16.4 billion) to help the authorities restore financial and economic stability and strengthen confidence. The authorities' programme aimed at restoring confidence in Ukraine's macroeconomic and financial stability; its key measures were:

· Implementation of a flexible exchange rate regime, to help Ukraine absorb external shocks.

· Monetary policy tightening, with base money as the near-term anchor to help achieve an inflation objective of 17% in 2009.

· Strengthening the independence of the NBU.

· Eliminating exchange rate controls as soon as possible.

· Recapitalization of viable banks, and strengthening of monitoring.

· Adoption of a prudent fiscal stance with the deficit not exceeding 1% of GDP in 2008, and attaining balance in 2009 (excluding bank recapitalization costs).^[19]

34.  In June 2010, the Executive Board of the International Monetary Fund (IMF) approved a 29‑month SDR 10 billion (about US$15.15 billion) SBA for Ukraine in support of the authorities' economic adjustment and reform programme. The SBA approved in November 2008 was cancelled. Some of the main points of the new programme were:

· Reducing the general government deficit to 3.5% of GDP in 2011 and 2.5% in 2012.

· Setting public debt firmly on a downward path below 35% by 2015.

· Initiating reforms to modernize the gas sector and eliminate Naftogaz's deficit starting from 2011, including through gas tariff increases and the unbundling of production, transit, and distribution to end-users.

·      Restoring and safeguarding banks’ soundness through completion of recapitalization plans by end-2010 and strengthened supervision.

· Developing a monetary policy framework focused on domestic price stability under a flexible exchange rate regime.^[20]

35.  In April 2014, the Executive Board of the IMF approved a two-year Stand-By Arrangement for Ukraine for SDR 10.976 billion (about US$17.01 billion, 800% of quota) under the Fund's exceptional access policy. The authorities’ economic programme set the following specific targets:

· Focusing monetary policy on domestic price stability while maintaining a flexible exchange rate regime by initially adopting a money-based monetary framework and adopting inflation targeting by mid-2015.

· Implementing financial sector reforms to maintain confidence in the financial system and strengthen the infrastructure for financial regulation and supervision. The NBU would ensure that banks strengthen their balance sheets, upgrade the regulatory and supervisory framework, and take steps to facilitate the restructuring of non-performing loans (NPLs).

· Introducing measures to reduce gradually the fiscal deficit by stabilizing revenue, while engaging in a medium-term expenditure adjustment process. The process of fiscal adjustment would be expected to proceed at a pace matching the economy's speed of recovery, aiming to reduce the fiscal deficit to about 3% of GDP by 2016.

· Focusing energy sector reforms on reducing the sector's fiscal drag and enhancing efficiency and transparency. Naftogaz's deficit to be brought to zero by 2018.

· Implementing capacity building measures to reform public procurement and tax administration, strengthen anti-money laundering activities, and fight corruption.^[21]

36.  On 12 February 2015, Ukraine reached a staff-level agreement with the IMF, on an economic reform programme, which can be supported by a four-year Extended Fund Facility (EFF), in the amount of SDR 12.35 billion (about US$17.5 billion), as well as, by additional resources from the international community. The staff agreement is subject to approval by IMF Management and the Executive Board.^[22] The approval of the EFF enables the immediate disbursement of SDR 2.058 billion (about US$3.19 billion), with SDR 1.29 billion (about US$2 billion) being allocated to budget support. The second and third disbursements will be based on bi-monthly reviews and performance criteria, and the remainder of the programme period will be subject to standard quarterly reviews and performance criteria. On 11 March 2015, the Executive Board of the IMF approved the Extended Fund Facility for Ukraine.^[23]

37.  The economic reform programme focuses on immediate macroeconomic stabilization as well as broad and deep structural reforms to provide the basis for strong and sustainable economic growth over the medium term. More specifically, the programme focuses on: (i) maintaining a flexible exchange rate to restore competitiveness; (ii) stabilizing the financial system; (iii) gradually reducing the fiscal deficit; (iv) eliminating losses in the energy sector; and (v) reforming governance. The following policy measures have been defined:

· An expenditure-led adjustment to strengthen public finances within the availability of resources supported by revenue reforms, including increasing the progressivity of the personal income tax, widening the tax base and streamlining the tax system.

· Fiscal consolidation to continue over the coming years.

· Medium term reforms of the civil service and health and education aiming to improve quality and efficiency, as well as improving customs and tax administration.

· Reform of the energy sector, including devising a strategy to foster energy efficiency and independence, increase domestic gas production, and restructure Naftogaz and improve its corporate governance.

·      Implementation of gas and heating price adjustments aiming to reach full cost recovery by April 2017, while revamping social protection schemes.

·      Gearing monetary policy toward returning inflation to single digits in 2016 within a flexible exchange rate regime.

· Rehabilitation of the banking system, by upgrading its regulatory and supervisory framework, strengthening banks' balance sheets and adopting measures to enhance asset recovery and resolution of bad loans.

· Advancing efforts toward deregulation and judicial reform and implementation of anti‑corruption measures. Reforming state-owned enterprise to minimize fiscal risks, improve corporate governance structures and foster de-monopolization.

3  Developments in Trade

38.  According to the latest available Ukraine customs data (which may differ from BOP data), merchandise exports (f.o.b.) in 2014 totaled US$53.9 billion^[24], a decline of 14.5% compared to the same period in 2013, while merchandise imports (c.i.f.) reached US$54.4 billion in 2014^[25], a corresponding decline of 29.4%.

3.1  Composition of Trade^[26]

39.  Steel has traditionally been Ukraine's main export product accounting for 30.9% of total exports in 2010, but declining to 25.5% in 2013.^[27] Exports of agricultural products exceeded steel exports for the first time in 2012 and continued growing to reach 28.1% of total exports in 2013.

40.  The average share of manufactures in total exports declined from 63.7% in 2010 to 57.4% in 2013.^[28] The main manufactured export products (other than iron and steel) are machinery and transport equipment, and chemicals. Mining products accounted for 13.5% of total export products in 2013 (down from 15.2% in 2010).^[29] The main agricultural export products include sunflower seeds and oil, maize, wheat, rapeseed, colza, mustard seeds and oil cake.

41.  In 2013, some 57.5% of imports were manufactured goods, up from 52.9% in 2010. The main categories of imports in 2013 were chemicals, non-electrical machinery and automotive products. Imports of fuels and mining products accounted for 30% of total imports in 2013, down from 35.8% in 2010, while imports of agricultural products accounted for 11.3%, up from 10.3% in 2010.

42.  Chart 1 shows the product composition of merchandise trade by HS Section.

3.2  Geographical distribution of trade

43.  Ukraine's merchandise exports are relatively concentrated with its top four trading partners accounting for some 60.6% of total exports in 2013.^[30] EU (28) was the main destination for Ukraine's exports in 2013, accounting for 26.5% of the total, followed by the Russian Federation (23.8%), Turkey (6%), and China (4.3%) (Chart 2). The CIS countries accounted for 35.7% of total exports in 2013, followed by Europe (33.2%) and Asia (11.9%). Trade figures for 2014^[31] show a redirection of merchandise trade exports towards Europe and Asia (with Europe accounting for 38.9% of total exports, and Asia for 12.5%), while shares to the CIS fell to 28.5%. EU (28) remains the main export destination for Ukraine's merchandise products accounting for 31.5% of the total, followed by the Russian Federation (18.2%), Turkey (6.6%), and China (5%).

44.  Ukraine's merchandise imports are more geographically concentrated than exports, with the four main providers accounting for some 80.3% of total imports in 2013. The main sources of imports that year were EU (28) (35.1%), the Russian Federation (30.2%), China (10.3%), and Belarus (4.7%). Europe accounted for 39.6% of Ukraine's total merchandise imports in 2013, followed by the CIS (36.6%) and Asia (16.2%). In 2014 Europe's share of Ukraine's imports increased to 43.6%, while those from the CIS dropped to 32% and Asia to 16.1%. EU (28) remains Ukraine's main import source, accounting for 38.7% of total merchandise imports, followed by the Russian Federation (23.3%), China (9.9%), and Belarus (7.3%).

Chart 1 Product composition of merchandise trade by HS Section, 2013 and 2014^a

a             Excluding Crimea and Sevastopol.

Source:   State Statistics Service of Ukraine, based on the data of the State Customs Service of Ukraine.

Chart 2 Direction of merchandise trade, 2013 and 2014^a

a             Excluding Crimea and Sevastopol.

b             Commonwealth of Independent States (CIS).

Source:   State Statistics Service of Ukraine, based on the data of the State Customs Service of Ukraine.

4  Trade Policy Features and Developments

4.1  Trade Policy Framework

45.  Ukraine acceded to the WTO in May 2008. Since its accession, Ukraine has participated in three disputes as complainant^[32], two as respondent^[33], and eight as third party.

46.  In March 2009, Ukraine notified the WTO of the introduction, as of 10 March 2009, of an import surcharge of 13%, applied to imports of certain products.^[34] This import surcharge was justified by the authorities as a measure applied for balance of payments purposes (import duty surcharge), under Article XII of the GATT 1994 and under paragraph 9 of the Understanding on the Balance-of-Payments Provisions of GATT 1994. The surcharge applied to imports from all sources except from Ukraine's preferential trade partners, namely CIS partners, the Former Yugoslav Republic of Macedonia, and Singapore. As of 28 March 2009 the Cabinet of Ministers suspended the 13% surcharge except for refrigerators (HS 8418) and motor vehicles (HS 8703); this was notified to the WTO in May 2009. The remaining measures were imposed for a period of six months, until 7 September 2009. The Balance-of-Payments Committee held consultations with Ukraine on 23 and 25 June 2009 and concluded that the measures taken by Ukraine were not justified by its balance-of-payments situation and had not been applied in a manner consistent with the requirements set forth in Article XII of GATT 1994 and the Understanding. Ukraine committed to eliminate the measures no later than 7 September 2009. On 8 September 2009, Ukraine notified the Committee that the measures taken for balance-of-payments purposes had been discontinued as of 7 September 2009.^[35]

47.  Ukraine is a signatory to a number of regional trade agreements (RTAs). It has notified 17 RTAs to the WTO, 14 covering goods only and three covering both goods and services.^[36] It is a member of the new Commonwealth of Independent States (CIS) FTA (which entered into force in September 2012) which links Armenia, Belarus, Kazakhstan, Kyrgyz Republic, Moldova, the Russian Federation and Tajikistan. Ukraine has individual bilateral FTAs with all members of the CIS and is a member of the Common Economic Zone, a free trade area with Belarus, Kazakhstan and The Russian Federation. Ukraine also has RTAs with Georgia, Azerbaijan, the Former Yugoslav Republic of Macedonia, Montenegro, Uzbekistan, Turkmenistan, the EFTA States and the EU.^[37] In general, tariffs have been eliminated on most tariff lines in these RTAs.^[38]

4.2  Tariffs and other duties

48.  When it acceded to the WTO, Ukraine bound 100% of its tariff lines; bindings are contained in Schedule CLXII, and range from 0 to 50% (excluding specific rates). The average bound rate was initially 6.0% at the national tariff line level (10-digits) and was scheduled to be lowered to 5.9% upon final implementation in 2013. Bindings were done at relatively low levels: some 87% of tariff lines were bound at 10% or less. While agricultural goods were bound at levels ranging from 0 to 50%, the average bound rate for agricultural goods is 11.0%, with the lowest bound rates applying to grains and the highest to sugar. The average bound rate for non-agricultural goods is 4.8%, with the lowest rates applying to product groups including wood, pulp paper and furniture and the highest to individual products such as reception apparatus for radio broadcast, catgut and conveyor or transmission belts.

49.  Ukraine's MFN applied tariff for 2015 comprises 10,460 HS 10-digit lines, 99% of which are subject to ad valorem duties. Specific rates are applied on 1% of tariff lines. The average tariff calculated by the WTO for 2015 is 4.8% (4.9% if AVEs are included). The average tariff for non‑agricultural products is 3.6%, while that for agricultural goods (WTO definition) is 9.4% (9.6% if AVEs are included) (Table 5). Ukraine applies seasonal duties on 13 products including roses, carnations, orchids, gladioli, chrysanthemums, lilies, foliage, melons (including watermelons), apples, pears and quinces. The differential seasonal duty on these items ranges from 5% to 20%.

50.  At the beginning of 2015, Ukraine introduced import measures taken for balance‑of‑payments reasons, consisting of a temporary import surcharge of 5% for goods classified in groups 25-97 in the UKTZED and 10% for goods classified in groups 1-24 of the UKTZED (see section 5). After the tariff surcharge is taken into account on applicable goods, the average tariff is 10.8% (10.9% if AVEs are included). The average tariff for non-agricultural products is 8.7% and 19.1% for agricultural goods (19.3% if AVEs are included).^[39]

Table 5 Ukraine, MFN applied rates, 2015

Note:       The 2015 tariff is based on HS12 nomenclature consisting of 10,460 tariff lines (at 10-digit tariff line level).

              Calculations include AVEs (based on 2014 imports), as available, provided by the Ukraine authorities.

a             Domestic tariff peaks are defined as those exceeding three times the overall simple average applied rate.

b             International tariff peaks are defined as those exceeding 15%.

c             The number of lines only refers to applied tariff rates including AVEs.

Source:   WTO calculations, based on IDB data provided by the Ukraine authorities.       

51.  Imports are subject to a value added tax (VAT) at a rate of 20%, with exceptions. Ukraine had plans to reduce this rate to 17% by 1 January 2015, and legislation to this end was passed. However, Parliament reversed in 2014 the already introduced VAT rate reduction and kept the rate at 20%. It was also decided to lower the scope for exemptions; for example, a reduced 7% VAT rate would be applied to supplies of pharmaceutical and medical products, which were previously exempt from VAT. The corporate income tax is 18% as of 1 January 2014 (it was lowered from 19%). A 15% withholding tax is applied on dividends, interest and royalties received by non‑residents.

4.3  Import Restrictions and Licensing

52.  Ukraine's import licensing regime has been notified to the WTO and has its legal foundation in Article 16 of the Law of Ukraine "On foreign economic activities" of 16 April 1991 #959-XII, as amended. Through its import licensing regime, Ukraine controls and restricts the import of weapons, narcotics, chemical and hazardous substances, and certain pharmaceutical and communications-related products. The Cabinet of Ministers of Ukraine adopts the licensing regime applying to imports of goods based on a submission of the Ministry of Economy of Ukraine. The list of goods subject to licensing in 2014 was approved by Resolution of the Cabinet of Ministers of Ukraine No. 950 of 25 December 2013 and notified to the WTO in August 2014.^[40] Import licensing procedures apply to all imports regardless of origin. Licenses can be either automatic or non‑automatic. They are not transferable between importers. No penalties are imposed for a failure to use a license or part of a license.

53.  Resolution of the Cabinet of Ministers of Ukraine No. 950 of 25 December 2013 specifies the goods falling under both automatic and non-automatic licensing regimes, as well as the administrative bodies responsible for issuing approvals to obtain a non-automatic license. The Resolution covers licensing requirements for both imports and exports, and provides a list of: (i) goods subject to import licensing requirements, such as insecticides, fungicides, herbicides, plant growth regulators, and rodenticides (listed in Annex 5); (ii) the volumes of export quotas for commodities subject to licensing, such as silver, gold, precious metals scrap, crude oil of Ukrainian origin, etc. (Annex 1)^[41]; (iii) goods subject to both export and import licensing requirements, such as printing inks, not-enamel paper etc. (Annex 2); (iv) ozone-depleting substances for which both exports and imports are subject to licensing, such as carbon tetrachloride, methyl bromide etc. (Annex 3); (v) goods that can contain ozone-depleting substances, for which exports and imports are subject to licensing, such as medical products synthetic organic colorants, paints and lacquers based on synthetic polymers etc. (Annex 4); (vi) goods with content of alloyed black metals, coloured metals and their alloys the export of which is subject to licensing (Annex 6); and goods, imported from the Former Yugoslav Republic of Macedonia (FYROM), subject to licensing for the granting of preferential tariff quotas in accordance with the provisions of the FTA between Ukraine and FYROM, such as lamb, dried vegetables, confectionery, chocolate, etc. (Annex 7).^[42]

54.  Goods subject to non-automatic licensing include: coking coal (UKTZED 2701 12 10 00); bituminous coal (UKTZED 2701 12 90 00); other coal (UKTZED 2701 19 00 00); coke and semi‑coke of coal for the manufacture of electrodes (UKTZED 2704 00 11 00); other coke and semi-coke of coal (UKTZED 2704 00 19 00); coke and semi-coke of lignite (UKTZED 2704 00 30 00); and coke and semi-coke of peat, whether or not agglomerated (UKTZED 2704 00 90 00). In this case, licenses are issued by the Ministry of Economic Development and Trade in accordance with the decision of the Interagency Commission for Quota Allocation for goods subject to import licensing.

55.  The process for the allocation of quotas is as follows: the Interagency Commission prepares recommendations for quota allocation for goods subject to import licensing in a specified year, based on the application and supporting documents submitted by business entities to the Ministry of Economic Development and Trade and considering the information about entity activities during the last three years (volume of imports, production, consumption of Ukrainian domestically produced coking coal, and production of cast iron). The Commission reviews the applications submitted by the Ministry of Economic Development and Trade within seven working days after the receipt of the applications and submits proposals and recommendations.

56.  In January 2015, Ukraine notified the Committee on Agriculture that no in-quota imports had taken place in 2014 with respect to its tariff rate quota of 267,800 tons on raw cane sugar (HS 1701.11).^[43] Imports of raw cane sugar imported from Ukraine's RTA partners are not counted towards the quota.

4.4  Contingency Measures

4.4.1  Anti-dumping and countervailing measures

57.  As of 31 December 2014, Ukraine had 17 definitive anti-dumping measures in force for products from Belarus, Bulgaria, China, Poland, the Russian Federation, and Turkey.^[44] One new measure was imposed during 2014 and two were extended. Seven measures on imports from China (3), Germany, Republic of Korea, Spain and the United Kingdom, were terminated in the second half of 2014. As of 31 December 2014, Ukraine had price undertakings on fibreboard from Belarus. There were two investigation initiations in 2014.

58.  Ukraine did not have any countervailing measure in place as of 31 December 2014. However, in September 2014, it initiated a countervailing duty investigation with respect to cars (UKTZED code 8703) from the Russian Federation.^[45]

4.4.2  Safeguard measures

59.  Since 2008, Ukraine has introduced four safeguard measures on imports. During the same period, it has initiated six investigations that resulted in no imposition of measures.^[46]

60.  The Interdepartmental Commission on International Trade applied safeguard measures in July 2008 with respect to imports of casing and pump-compressor seamless steel pipes regardless of country of origin.^[47] The safeguard measure consisted in the introduction of import quotas for three years, from 1 October 2008 to 30 September 2011. The annual special import quota fixed amounted to 14,504 tons in the first year of the three-year period. There were also gradual liberalization measures applied by increasing the annual special quota by 5% to 15,230 tons for the second year, and by 10% to 15,955 tons in the third year.^[48] Import quotas were administered through the issuance of special licenses by the Ministry of Economic Development and Trade.

61.  On 30 September 2011 the Commission extended the application of the measures for three years with a gradual liberalization of import quotas from 16,753 tons (4 October 2011‑30 September 2012) to 17,591 tons (1 October 2012–30 September 2013) and 18,471 tons (1 October 2013–30 September 2014).^[49] The measures ceased to apply for two months, from 1 August 2013 until 30 September 2013.^[50] On 29 September 2014, following the initiation of a review, the Commission decided to extend their application for the period of review (six months), until 31 March 2015. The period of investigation was determined as from 1 October 2010 to 30 September 2013. The import quotas for the six-month extension period amounted to 9,328 tons. The special quota was allocated as follows: the Russian Federation 6,631 tons, Austria 1,367 tons, Poland 614 tons, Romania 117 tons, Slovak Republic 95 tons, India 40 tons, China 27 tons, other 437 tons.^[51]

62.  In October 2009, Ukraine announced the imposition of safeguard measures on matches (UKTZED code 3605000000) from any source. On 29 of November 2008, a safeguards investigatory process was initiated and notified to the WTO.^[52] The investigation concluded that the domestic industry suffered material injury during the period 1 July 2005 until 30 June 2008. It was determined that the price at which matches were imported to Ukraine was lower than the domestic selling price of similar matches and below its cost and had led to a displacement effect of domestic production for imports and to a reduction in domestic production due to an increase in the volume of imports. It was decided to introduce a special duty at the rate of 11.3% from 6 November 2009 for three years.^[53]

63.  On 21 March 2013, Ukraine notified to the WTO that it had found injury and was applying a safeguard on the importation of motor cars.^[54] The investigation had been initiated in July 2011 and notified to the WTO.^[55] It resulted in the imposition of final safeguard measures applied in the form of a special duty of 6.46% for motor cars of a cylinder capacity exceeding 1 000 cm3 but not exceeding 1 500 cm3; and of 12.95% for those of a cylinder capacity exceeding 1 500 cm3 but not exceeding 2 200 cm3. The measures were effective as of 13 April 2013 and expected to be in force for three years. The major exporting WTO Members of the product involved are China, the EU, Japan, the Republic of Korea, the Russian Federation, and Turkey. The measures do not apply to least developed countries.^[56] In May 2013, Ukraine announced to the WTO the suspension of the measures from 20 April 2013 until 28 February 2014.^[57] In March 2014, Ukraine announced the reinstatement of the measure, but at lower rates: 4.31% for the first 12 months and 2.15% for the following 12 months for cars classified under UKTZED code 8703 22 10 00; and 8.63% and 4.32%, respectively for cars classified under UKTZED1 code 8703 23 19 10.^[58]

64.  On 25 April 2014, Ukraine notified to the WTO the imposition of safeguard measures on imports of tableware and kitchenware of porcelain classified under UKTZED code 6911100000. Ukraine had initiated an investigation in May 2013 on imports of these products regardless of country of origin and export.^[59] Ukraine notified to the WTO its determination of serious injury or threat thereof caused by increased imports in March 2014.^[60] On 4 April 2014 the Interdepartmental Commission on International Trade took Decision № SP-309/2014/4421-06 on the application of safeguard measures on imports of tableware and kitchenware of porcelain regardless of their country of origin and export. The safeguard measure was applied in the form of a special duty of 35.6% on imports into Ukraine of certain goods subject to the measure. The measures came into effect on 23 May 2014 for three years. A schedule of liberalization by reduction of the duty rates was established as follows: 12 months from the date of application, to 32%; 24 months from the date of application, to 28.8%.^[61] Imports from Iceland, Liechtenstein, Norway and Switzerland, and Armenia, Kazakhstan, Moldova, the Kyrgyz Republic and the Russian Federation were deemed not prejudicial and/or threatening to cause injury to domestic industry, and were excluded from the application of the safeguard measures.^[62] The volume of import to Ukraine of goods excluded from the application of safeguard measures is estimated at 0.1% of total imports, and therefore was considered to not affect the main conclusions of the investigation authority regarding the fact of the growth in imports causing serious injury to domestic industry. Imports from a group of developing countries, amounting to a negligible level of imports, individually and collectively, were also excluded.^[63]

4.5  Article XXVIII negotiations

65.  In August 2012 Ukraine notified the WTO of its intention to modify certain concessions included in its Schedule CLXII under GATT Article XXVIII:5.^[64] These modifications involved some 371 tariff lines covering both agricultural and industrial products in 14 HS Chapters.^[65] A number of Members raised concerns about these modifications in meetings of the General Council, the Committee on Market Access and the Committee on Agriculture. In the General Council meeting of 21 October 2014, Ukraine announced the withdrawal of its Article XXVIII communication, concerning negotiations and consultations for modification of certain concessions included in Schedule CLXII, citing changing economic and political conditions.^[66]

4.6  Preferential Access to Third Markets

66.  Ukraine benefits from the Generalized System of Preferences (GSP) schemes of Canada, the European Union, Japan, Turkey and the United States.

5  The Trade Measures Applied and Their Possible Effect

67.  On 20 January 2015, Ukraine notified on the basis of Paragraph 9 of the Understanding on the Balance-of-Payments Provisions of GATT 1994 the introduction of import measures taken for balance-of-payments reasons.^[67] The measures consist of a temporary import surcharge of 5% for goods classified in groups 25-97 in the UKTZED and 10% for goods classified in groups 1-24 of the UKTZED.^[68] Imports by nationals (citizens or private persons) of goods into Ukraine in accordance with Article 374 of the Customs Code of Ukraine are charged at 10%. The legal basis for these measures are the Laws "on measures concerning stabilization of the balance of payments of Ukraine in compliance with Article XII of the General Agreement on Tariffs and Trade 1994" of 28 December 2014 No. 73-VIII and the Law of Ukraine "On Amending the Customs Code of Ukraine (concerning stabilization of the balance of payments)" of 28 December 2014 No. 74-VIII.

68.  The import surcharge is levied on all goods imported into the customs territory of Ukraine regardless of country of origin, except for essential goods which include oil, natural gas, non‑irradiated fuel elements, electrical energy, coal, gasoline, mazout, diesel fuel, medical devices for hemodialysis and treatment of cancer patients, goods granted free of charge to Ukraine by other countries' governments or international organizations under international agreements (ratified by Ukraine's Parliament), and certain other goods such as pharmaceutical equipment, machinery and equipment intended for private use by intelligence agencies, and weapons. The surcharge applies in addition to the customs value of the goods, before payment of internal taxes if any (e.g. VAT, excise duties); thus, for example, if the MFN tariff is 10% and the product is subject to an import surcharge of 5%, the total duty paid on the import including the surcharge will amount to 15%.

69.  According to the notification submitted by Ukraine "the temporary import surcharge will be effected from the date of publication of the Decision of the Cabinet of Ministers of Ukraine on completion of consultations with international financial institutions". Ukraine's law specifies that the import surcharge will be imposed temporarily for a period of 12 months and will be levied on goods imported to the customs territory of Ukraine "according to the import customs regime regardless of country of origin and signed agreements (treaties) of Ukraine on free trade". Thus imports from Ukraine's preferential partners are subject to the measures.

70.  On 26 March 2015, Ukraine notified that the measures taken for balance-of-payments purposes had come into force on 25 February 2015.^[69] Included in the notification is Ukraine's 2015 schedule showing the corresponding import surcharge on a tariff-line basis. A total of 379 lines are excluded from the application of the import surcharge (Table 6). 

Table 6 Product groups exempted from temporary measures