REPORT ON THE CONSULTATIONS WITH Ukraine

1.  The Committee held consultations with Ukraine on 28 April and 11 June 2015, under the Chairmanship of Ambassador Bertrand de Crombrugghe de Picquendaele (Belgium), in accordance with the terms of reference of Article XII of the GATT 1994 and the Understanding on the Balance‑of-Payments Provisions of the GATT 1994. The International Monetary Fund was invited to participate in the consultations in accordance with Article XV:2 of GATT 1994.

2.  The Committee had before it the following documents:

        WT/BOP/S/17           Background Paper prepared by the Secretariat

        WT/BOP/N/78           Notification from Ukraine

        WT/BOP/N/78/Add.1 Notification from Ukraine

        WT/BOP/G/21           Basic Document supplied by Ukraine

        RD/BOP/1                 Statement by the IMF Representative at the Consultation of                                          the WTO Committee on Balance-of-Payments Restrictions,                                          28 April 2015

        RD/BOP/3                 Replies to questions submitted by Members

Meeting on 28 April 2015

1  Opening Statement

3.  The opening statement by the representative of Ukraine is attached (Annex 1).

2  statement by the imf

4.  The statement by the representative of the IMF is attached (Annex 2).

3  discussion in the committee

5.  Ukraine notified the WTO of the introduction of a temporary import surcharge under GATT Article XII, due to the serious deterioration in its balance of payments (WT/BOP/N/78 and WT/BOP/N/78/Add.1). The measure came into force on 25 February 2015 and consisted of a 10% import surcharge for goods classified in groups 1-24 in the Ukrainian Classification of Goods for Foreign Economic Activity, based on HS2012; 5% for goods classified in groups 25-97; and 10% for goods imported by nationals into Ukraine. The import surcharge is levied on all goods regardless of the country of origin. A few essential goods, including oil, natural gas, non‑irradiated fuel elements, electrical energy, coal, gasoline, mazout, diesel fuel, and medical devices for hemodialysis and treatment of cancer patients are excluded from the application of the import surcharge.

3.1  Balance-of-payments position and prospects; alternative measures to restore equilibrium

6.  Several Members acknowledged Ukraine's severe economic difficulties and shared the IMF's view of Ukraine's balance-of-payments situation. Factors leading to this assessment included the alarmingly low level of international reserves, the sharp depreciation of the currency against the US dollar, the substantial increase in the debt/GDP ratio, the decrease in domestic demand, the reduction in demand for Ukraine's exports, and instability due to the military conflict in eastern Ukraine. All were indicators that Ukraine was in economic distress. The economy was in deep and prolonged recession, forecasts were not encouraging and Ukraine's balance-of-payments situation remained fragile. The import surcharge taken by Ukraine was justified and was aimed at safeguarding Ukraine's external financial position and improving its balance of payments.

7.  A large number of Members commended Ukraine for its transparent implementation of the measure and encouraged it to proceed in a transparent manner. They welcomed Ukraine's willingness to re-evaluate the need for the surcharge in the event that its balance-of-payments situation improved, prior to the expiration of the measure. The WTO's balance-of-payments provisions were intended to allow countries with balance-of-payments difficulties to take across‑the-board, preferably price-based measures to reduce the general level of imports. For these Members the measure taken by Ukraine appeared to conform to the requirements of GATT Article XII. They added that such provisions were only meant to provide a temporary means to alleviate balance-of-payments difficulties in a manner that sought to avoid any unnecessary distortion of trade, and were not intended to be used by Members as a way to justify protectionist trade measures. Every balance-of-payments measure therefore deserved close scrutiny to determine whether it conformed to WTO rules.

8.  One Member referred to the bilateral support it had extended to Ukraine and said that in order to achieve sustainable development, Ukraine needed to implement fundamental reforms and establish its economic system in line with the rule of law and international commitments, including the WTO Agreements. The conformity of the import surcharge with GATT Article XII should be judged by the latest accurate factual elements and could only be justified in cases of real and substantial necessity.

9.  A couple of Members pointed out that the current account deficit was decreasing, as imports were steadily declining faster than exports. Both in absolute terms and in relation to GDP, the level of international reserves was showing signs of an increase, bolstered by the IMF disbursement and bilateral support. They expressed concerns about the possible negative effects of the measure on investment and enquired about its economic rationale, given that it might further worsen Ukraine's financial account. One Member questioned the methodology behind the measure, given the improvement in Ukraine's situation in 2014 compared to the previous year. Another Member asked about the economic impact of the measure, since in his delegation's view, an improvement of US$1 billion in the current account and a revenue gain of 1% of GDP was minimal. Another Member wondered whether a substantial economic impact would result from the import surcharge and whether it was consistent with the structural reforms outlined in paragraph 4.6 of Ukraine's report. Creating a favourable business climate was a priority and the import surcharge needed to be justified.

10.  Regarding the economic impact of the measure, the representative of the IMF replied that it was estimated at about US$1 billion for the duration of the temporary surcharge. This was almost equal to the projected size of the current account deficit for 2015, so without the surcharge the current account deficit would be double what the macroeconomic framework for the IMF-supported programme projected. He emphasized that the US$1 billion would have needed to be supplied from somewhere, either from additional financing or further macroeconomic adjustment which would be detrimental to Ukraine's economy. Regarding the relation of the surcharge to the financial account of the balance of payments, in particular to foreign direct investment, the IMF did not anticipate a substantial negative impact on FDI as long as the surcharge was temporary, as had been clearly announced by Ukraine's authorities. In the IMF's view, Ukraine's first and foremost macroeconomic task was to achieve macroeconomic stabilization, and the surcharge, distortionary as it might be, was part of the overall macroeconomic package that the authorities were applying. Once macroeconomic stability had been fully restored, this would be conducive to an increase in FDI and growth in Ukraine.

11.  One Member was of the view that the source of Ukraine's BOP problem was the capital and financial account, not the current account, and did not agree with the calculations provided by Ukraine on the import coverage of international reserves, as Ukraine's international reserves covered at least two months of imports. He noted that no import statistics had been provided following the sharp depreciation of the hryvnia in February 2015, when the National Bank of Ukraine had switched to market determined rates. Moreover, the IMF had forecast that with sizeable international assistance, gross international reserves would be rebuilt, reaching around 3.3 months of import coverage by the end of 2015. Thus, the same Member did not see any imminent threat of a serious decline in Ukraine's monetary reserves, which was one of the preconditions of GATT Article XII to justify the introduction of import restrictions for balance-of-payments purposes.

12.  Regarding alternative methods to restore equilibrium, one Member welcomed the measures introduced by Ukraine to stabilize its macroeconomic situation, such as the abolition of the pegged exchange rate regime and the revision of the budget in line with more realistic expectations. The same Member encouraged Ukraine to continue implementing structural reforms, for instance those launched in the energy and banking sectors, as they were expected to contribute to improving its balance-of-payments situation. The government of Ukraine was to be commended for its widespread and ambitious reform efforts. In particular, the same Member supported the actions Ukraine had taken to improve its economic situation and maintain a liberal trading regime under dire circumstances. In addition, the Member had taken note of the various other initiatives described in Ukraine's Basic Document that were being undertaken by the government of Ukraine to restore its balance of payments and encouraged the continuation of these efforts.

13.  One Member was of the view that Ukraine had not taken other measures to restore its balance of payments, especially taking into account that the IMF had encouraged the authorities of Ukraine to explore "other, less distortive, options to improve external sustainability". Ukraine had not taken measures to stimulate exports, in particular to diversify merchandise exports, nor to reduce the applied tariff for capital goods on inputs needed for production. For most of such products the applied tariff was 5%. With an import surcharge of 5%, the effective rate would become 10%. Such trade restrictions were not a proper solution to the problem.

14.  Another Member pointed out that Ukraine's balance-of-payments situation was not created by trade alone and therefore the introduction of a trade-restrictive measure might not be the first best option to improve its BOP situation. Indeed, the IMF had encouraged the authorities to introduce alternative, less trade restrictive measures. Trade restrictive measures, if frequently introduced, could undermine investor confidence and compromise the predictability of the multilateral trading system. The same Member hoped that Ukraine would rely upon other domestic policy measures such as public finance improvement and major structural reforms, as well as the import surcharge, to improve its BOP situation.

15.  Some Members requested that Ukraine remove its import surcharge measure as assumed in the IMF supported programme, by December 2015, or earlier, if possible. One Member asked Ukraine to confirm that the measure would be removed by the end of the year and whether it might be renewed.

3.2  System and methods of restrictions; effects of restrictions

16.  Regarding system and methods of restrictions, one Member pointed out that Ukraine's measure was an important part of a wider reform programme which was important for the country. He appreciated that overall the measure was not discriminatory, it was temporary and did not exceed what was needed, it was price-based and covered almost all tariff lines. These were important elements in this Member's assessment.

17.  Another Member pointed out that Ukraine had committed upon its WTO accession to bind 100% of its tariffs, many at very low levels. He drew Members' attention to the statement on page 16 of the Secretariat's Background Document that, after the tariff surcharge was taken into account on applicable goods, Ukraine's average tariff was still a relatively moderate 10.8%, with an average of 8.7% on industrial goods and 19.1% on agricultural goods.

18.  Another Member commended Ukraine for implementing a price-based balance-of-payments measure to control its general level of imports with limited exceptions for essential products and to all trading partners, including preferential partners. According to the Secretariat's Background Document, Ukraine's measure was applied to all but 379 tariff lines. The share of tariff lines subject to the import surcharge was 96.4% accounting for 63.4% of Ukraine's total imports in 2014.

19.  Another Member stated that it concurred with the IMF's assessment that a temporary import surcharge could alleviate the balance-of-payments situation. The measure adopted by Ukraine was temporary and transparent and she considered it was in line with WTO rules. Her country encouraged a timely removal of the measure.

20.  One Member asked the IMF representative to explain the assumptions underlying its economic support programme with respect to the import surcharge, in particular, whether it was assumed under the programme that the surcharge would be eliminated at the end of 2015. Secondly, while recognizing that it was still early in the programme's implementation, he wondered if the IMF could indicate whether developments in Ukraine's economy were broadly in line with expectations. Would the programme be fully financed in 2015 without the surcharge?

21.  The IMF representative confirmed that the programme assumed that the surcharge would be terminated at the end of 2015, as Ukraine had indicated, as the balance of payments would be fully financed from 2016 on without the need for the import surcharge. Without the surcharge, the programme would not be fully financed in 2015, given that the surcharge was in place before the adoption of the IMF programme. The US$1 billion generated by the surcharge had been incorporated in the balance-of-payments projections for 2015. Without the surcharge there would be a gap of US$1 billion which would have to be financed by alternative sources which had not been available at the time of the IMF's discussions with Ukraine.

22.  Members asked about the rationale for imposing a 5% tariff on industrial products and 10% on agricultural products, given the relatively small share of agricultural products in Ukraine's imports. One Member questioned why the 10% tariff surcharge was imposed on agricultural goods, given that Ukraine was self-sufficient in agriculture and the share of agricultural products was only 11% in Ukraine's total imports. In his view, a higher surcharge for goods with a relatively low share in imports clearly showed the protectionist and trade-distortive nature of the measure.

23.  One Member recalled that trade restrictive measures applied for balance‑of-payments purposes should be applied in a way to avoid any undesirable protective effects and that GATT Article XII called on Members applying restrictions for BOP purposes to avoid unnecessary damage to the commercial or economic interests of any other Member. His country was seriously affected by Ukraine's measure. The same Member asked the Ukrainian delegation to clearly explain the extent to which bound rates were being exceeded by the application of the import surcharge over the applied rates. In this Member's view, this was not in line with paragraph 2 of the Understanding, which stated that the amount by which the measure exceeded the bound tariff should be indicated clearly and separately under notification procedures. The same Member was disappointed by the absence of any plans for progressive relaxation of the restriction, as provided for in GATT Article XII. In the absence of such a plan, especially taking into account the entry into force of a free trade agreement with one of Ukraine's main trading partners, this Member was worried about a possible reintroduction of the import surcharge after expiration of the current measure. In this Member's view, Ukraine's measure had not been applied in a manner consistent with the requirements set forth in GATT Article XII and the Understanding. He urged Ukraine to remove the measure immediately.

24.  Members asked about the possibility for an early removal of the surcharge, whether there were any specific criteria for its early removal, or an assessment mechanism to review the condition of improvement of balance-of-payments conditions. One Member asked for a definition of the "equilibrium" level of the balance of payments, referred to in paragraph 6.3 of Ukraine's Basic Document.

25.  With regard to the effects of the restriction, some Members questioned the extent to which the import surcharge was actually helping to improve Ukraine's current situation. Several Members expressed concern about the adverse impact of the measure on their exports. One Member enquired about Ukraine's efforts to ensure that the surcharge did not increase domestic food prices to the detriment of its population.

26.  One Member pointed out that different figures were cited for the impact of the measure on imports in Ukraine's Basic Document. In one instance a figure of US$0.8 billion had been mentioned and, in another, US$1.2 billion. He asked which figure was the right one and how it had been calculated.

27.  Some Members said that their authorities were still evaluating Ukraine's Basic Document. One Member said that it would engage bilaterally with Ukraine, in particular in light of the systemic implications and the compatibility of the measure with GATT Article XII.

4  replies by the representative of Ukraine

28.  The representative of Ukraine said it was strange to hear that Ukraine's current account and balance of payments had improved the previous year as there was no doubt that Ukraine's economy had been hit by a severe balance-of-payments and exchange rate crisis in 2013 which had continued in 2014. Since the beginning of 2014, the currency had lost almost two thirds of its value against the US dollar. The current account deficit had shrunk last year to 4% of GDP, but that level could not be financed in the current environment. As a consequence, reserves had fallen from US$20 billion at the beginning of 2014 to US$5.6 billion at end February 2015. Some Members had pointed out that in March 2015, reserves had recovered to a level of US$10 billion, but this was due to the disbursements of the IMF tranche under the Extended Fund Facility.

29.  Regarding the adequacy of Ukraine's reserves, its reserve position of US$10 billion was the gross international reserve amount that covered only two months of future imports, while the critical measure was three months. The amount of US$10 billion covered only 36% of the IMF composite metric and 18% of short-term debt by remaining maturity, while 100% was considered the minimum adequate level for both measures. There was no doubt that Ukraine faced a severe macroeconomic crisis in large part fuelled by military conflict and interventions by third parties. Ukraine's reserves position remained weak and net international reserves were close to zero. All of these factors provided clear justification for the trade-based measure applied by Ukraine.

30.  Regarding alternative measures to restore equilibrium, Ukraine had explored many options to overcome its situation. It continued to work with the IMF and other donors, it had agreed to implement a serious package of unprecedented internal policy reform, and was committed to tackling its numerous challenges, both externally and internally. The safeguard measure was a response to an extreme and unique situation for Ukraine and Members should keep this in mind when considering the measure. The measure had not been taken in order to be protective or prohibitive and was merely a response by Ukraine to serious imminent threats.

31.  As regards export diversification and promotion, this was a process that would take years. Due to the situation in the east of Ukraine and Crimea, Ukraine's exports had fallen as its major industrial capacity was traditionally concentrated in the eastern region. For example, the steel industry traditionally generated about 40% of Ukraine's exports. While not all Ukraine's industry was located in one region, Ukraine had lost more than 50% of its capacity in the eastern region. This was not just export losses, as some production capacity had been totally destroyed and needed to be recovered. In addition, the humanitarian situation was worsening. The economic impact of the situation in Crimea had had a negative impact on Ukraine's economy and had resulted in a loss of about US$1.5 billion in total exports. If the services sector was added in, and Crimea traditionally generated revenues in services, Ukraine's total losses amounted to 5.1% of total exports.

32.  Regarding its tariff regime, Ukraine had liberalized its trade regime upon its accession to the WTO by binding 100% of its tariff lines. Its average tariff was very low for both agricultural and industrial goods. Members needed to bear in mind that Ukraine had applied and bound tariff rates of zero for practically all agricultural products, so an import surcharge of just 10% would be added to them. This might be restrictive, but it was in no way prohibitive. Trade would continue to flow. Ukraine did not have high applied duty rates, either for industrial or agricultural goods. Therefore, Members should consider Ukraine's measure against this background when assessing it.

33.  Concerning the differentiated application of the import surcharge, Ukraine had provided figures to demonstrate that its share of imports of industrial and agricultural products was rather different. Ukraine was self-sufficient in agricultural production and could cover the basic needs of its population. The additional surcharge of 10% would not have much influence on the consumption of basic agricultural products as these could be supplied by Ukraine. Imports of non‑essential, processed products such as tea and coffee would experience a decrease but this would not influence the overall trade situation with Ukraine's trading partners. Members could easily check the level of Ukraine's protection in agriculture. For many products the tariff was zero, 5% or not more than 10%. Ukraine had developed its strategy in agriculture during the last decade, taking into account the export orientation of agriculture. Its liberal policy in agriculture had created a self-sufficient, competitive agriculture sector which was attractive for investment. Products which were traditionally imported were treated as non-essential at present, which was why a 10% import surcharge had been imposed.

34.  In the case of industrial goods, i.e. capital goods or production inputs, the major influence on them was the security situation rather than the 5% surcharge. The measure was temporary and would be phased out before the end of 2015, as clearly stated in the memorandum with the IMF and in Ukraine's legislation. Regarding the exemption of military equipment from the application of the surcharge, discussion of this issue would lead the Committee in the wrong direction as the focus of discussion in the Committee was Ukraine's balance-of-payments difficulties.

continuation of the meeting on 11 june 2015

35.  The Statement by Ukraine is attached in Annex 1.

36.  The representative of the IMF said that the Fund had discussed recent developments and policies necessary to bring the first programme review to its Executive Board during an IMF mission to Kiev in May. Tentative signs of stabilization were emerging. After halving in value in February, the hryvnia had recovered in the period of March to May following the tightening of monetary policy and the administrative measures introduced by Ukraine's National Bank. In recent weeks the hryvnia had stabilized at 20.5 to 23 hryvnia/US$, broadly as projected under the programme. Hryvnia deposit outflows had stopped although foreign currency outflows continued and the budget performance had turned out better than expected. The drain on National Bank reserves had been reduced but not eliminated. Delays in official financing had kept reserves some US$200 million below programme projections for end-May 2015. The economy remained weak and inflation had risen. As the conflict in the east intensified, industrial production, construction and retail sales had contracted sharply in the first quarter at a higher than expected pace. Accordingly, real GDP in the first quarter had declined by 17.6%, somewhat worse than programmed. The rapid pass through of the large exchange rate depreciation in February and increases in regulated energy prices had contributed to a spike in prices of 61% in April. However, the hryvnia had recovered and stabilized, prices of some imported goods had begun to decline and, as a result, inflation in May had moderated to 58.4% year on year, while still remaining very high. In IMF staff's view, the IMF supported programme was on track. All quantitative performance criteria for end March and most of the structural benchmarks had been met or were on course to be met, albeit some with a delay. The macroeconomic framework of the programme had been updated to reflect the most recent developments. In particular GDP growth for 2015 had been revised to -9%, compared to -5% at the time of programme approval, driven by the deterioration in industrial production, tighter bank credit and scaled back exports as supply constraints caused by the conflict in the east proved tighter than expected. Growth projections for the medium term remained unchanged relative to the programme approval. Inflation at end 2015 was now projected at 46% compared to 27% at the time of the programme approval. This was due to the largely one-off pass through effects of the large exchange rate depreciation in February 2015.  Inflation was projected to recede in 2016 to around 12% as the one-off effects subsided and economic stabilization gradually took hold. On the balance-of-payments side, overall projections for 2015 remained unchanged. The current account deficit was expected to widen to 1.7% of GDP, a bit more than the 1.4% forecasted at programme approval. Both export and import projections were more compressed than initially expected, with imports less so. The wider current account deficit had been offset by a better than expected financial account driven mainly by lower than expected FX cash outflows from the banking system. Accordingly, the programme's projection for gross reserves at end 2015 remained unchanged at US$ 18.3 billion.

37.  The majority of Members who took the floor shared the IMF's view that Ukraine's BOP crisis continued and its economy was in a fragile state. Reserves, which were low and highly dependent on official external financing, were expected to remain under pressure as capital outflows continued. These Members expressed appreciation for the update provided by Ukraine, its responses to Members' questions, its commitment to transparency throughout the process and its bilateral engagement with Members. They commended Ukraine for the reforms undertaken and encouraged the authorities to continue implementing this important agenda in order to lay the ground for sustainable growth. One Member appreciated Ukraine's efforts to respect its WTO obligations, including notifying the measure before it took effect, avoiding quantitative restrictions, and its commitment to remove the measure as soon as possible. The same Member provided details of its bilateral support initiatives with Ukraine. Another Member, while recognisant of Ukraine's fragile BOP situation and supportive of the BOP measure, voiced its systemic concerns and its preference that the measure had not been introduced. The same Member expressed appreciation for Ukraine's clarification of the benchmarks to be used for withdrawal of the measure.

38.  One Member welcomed the signs of improvements in Ukraine's macro-economic indicators including those in the current account, financial account and foreign reserves. Ukraine's replies and explanation in the meeting had substantially addressed some of the specific concerns it had raised at the earlier meeting, namely that the application of GATT Article XII should be judged based on updated and accurate economic indicators and that any measure subject to Article XII was justified as long as it contributed to fundamental reform and the long term sustainable growth of the economy. Another Member drew attention to the negative impact on its exports to Ukraine and urged the removal of the measure once Ukraine's BOP problem had been adequately addressed. Another Member who had raised questions in the earlier meeting about the methodology employed by Ukraine and had raised concerns about the efficacy of the measure said that Ukraine's responses had enabled it to better understand the nature and possible effects of the measure. While its exports had fallen, that Member attributed high importance to political and economic stability in Ukraine and fully understood the special situation in which Ukraine found itself. It hoped that Ukraine would not face such difficulties in the future and thus would not have recourse to such measures.

39.  One Member asked Ukraine to provide more information on the preliminary estimates of the national currency devaluation on the balance-of-payments deficit and monetary reserves. In its view, the combination of exchange rate policy and policy reforms, including those, which were recommended by the IMF, should lead to improvement of external imbalances.  The same Member asked Ukraine to provide more information on how the trade restriction would contribute to a reduction in the current account deficit. Taking into account Ukraine's answers she noted that  imports into Ukraine had been decreasing since July 2014 before the import surcharge was introduced in February 2015, while the drop in exports had been more pronounced since March 2015, sufficiently due to a fall in international competitiveness as a result of the import surcharge. The sharp devaluation of the currency had contributed to an improvement of the current account balance. Second, regarding the issue of the differentiated level of the surcharge, this Member suspected that its real objective was not to limit foreign currency demand and temporarily reduce imports, but to introduce a form of industrial policy aimed at protecting national agricultural producers. This was contrary to what was spelled out in the 1979 Declaration, namely that measures should not be taken for the purpose of protecting a particular industry or sector. Trade restrictive measures should be applied in a way to avoid any undesirable protective effect: protecting domestic producers by restricting international trade would aggravate the difficult situation that the Ukrainian economy was facing. She noted that the expected reduction in trade due to the import surcharge would not have the desired effect of helping to restore BOP equilibrium. By introducing trade restrictive measures, Ukraine had shifted part of the burden of redressing its situation to the external account with clear repercussions on its trading partners through decreased exports. Ukraine's measure had resulted in a sharp decrease of that Member's exports to Ukraine, contrary to the provisions of GATT Article XII, which called on parties applying restrictions for balance-of-payments purposes to avoid unnecessary damage to the commercial or economic interest of any other Member. Third, her delegation disagreed with Ukraine's assessment that the impact of the import surcharge on the annual inflation rate was negligible. She pointed out that inflation might go up due to increasing import prices (in particular for agricultural products necessary for domestic consumption), and the decline in export potential. Fourth, that Member reiterated the absence of information on whether Ukraine was considering any progressive relaxation of restrictions. Thus, the introduction of the import surcharge could not be justified by the requirements of GATT Article XII and the Understanding.

40.  The same Member added that recent statistical data showed that the volume of international reserves of Ukraine covered at least three months of imports. Her delegation had taken note of a recent law adopted by the parliament of Ukraine that would allow the government to unilaterally declare a debt moratorium. Ukraine claimed that this instrument would be used in order to reduce the pressure on its balance-of-payments. In conclusion, her delegation was of the view that the measure could not be justified by the balance-of-payments provisions of the GATT and was not consistent with Ukraine's obligations under the WTO. She urged Ukraine to remove the import surcharge immediately and asked the Committee to support her delegation's position.

41.  The representative of Ukraine thanked Members for their constructive views and took note of some reservations made by some Members. As indicated in its written replies Ukraine's external position remained under significant pressure in the first months of 2015. The combination of exchange rate and other policy reforms and the introduction of the import surcharge would contribute to further narrowing of the current account deficit to 1.3% of GDP according to the National Bank's estimates. The major improvement in the current account was due to the introduction of the import surcharge and hryvnia devaluation as they had an almost instant effect on imports, while policy reforms would take time to be reflected in exports. International reserves remained very low and covered two months of future imports. Regarding the differentiated level of the import surcharge, higher rates on agricultural products were acceptable given that consumers could decrease demand for imported commodities or substitute them with local products without hampering economic growth potential. Given that imported industrial goods were used for investment purposes or as inputs for further production, the purpose of the differentiated import surcharge was to minimize the negative effects on economic growth potential from an increase in the price of such goods. The impact of the import surcharge on annual inflation was negligible. Finally, Ukraine indicated that plans for the progressive relaxation of the restrictions were conditional on BOP developments and that if the level of reserves exceeded the projected targets under the Extended Fund Facility with the IMF, Ukraine would consider relaxing the restriction earlier than planned.

5  conclusions

42.  Members expressed appreciation for Ukraine's efforts in ensuring a timely, full and transparent notification to the Committee of the tariff surcharge adopted in February 2015. The Committee noted that the share of Ukraine's tariff lines subject to the import surcharge is 96.4%, accounting for 63.4% of Ukraine's total imports in 2014. After the imposition of the import surcharge, applied tariffs exceed bound levels for 83.6% of all tariff lines; 93.1% in the case of products falling under the WTO agriculture definition and 81% for non‑agriculture products, including petroleum. Members noted that the import surcharge is temporary, price-based, is applied to all WTO Members and covers almost all tariff lines.

43.  Members recognized the severe economic difficulties faced by Ukraine with regard to its balance-of-payments situation which had been negatively affected by a combination of factors, and had led to a low level of international reserves. Others pointed out that the current account deficit was decreasing and the level of international reserves had recently improved, bolstered by the IMF disbursement under the Extended Fund Facility and by bilateral support. Some Members acknowledged that the import surcharge would alleviate Ukraine's balance-of-payments difficulties. Others questioned the economic rationale for the measure, its appropriateness and economic impact, and whether it was conducive to creating a favourable business climate. One Member considered that current economic conditions in Ukraine did not justify the measure.

44.  Members commended Ukraine for its ambitious programme of reforms to stabilize its macroeconomic situation and safeguard its external financial position. Some Members pointed out that Ukraine's balance-of-payments situation was not created by trade alone and regretted that alternative, less trade-restrictive measures had not been envisaged to correct its balance-of-payments problem.

45.  Some Members questioned the rationale behind a differentiated application of the measure and the reasons for a higher surcharge on agricultural goods than on industrial products. Members recalled that trade restrictive measures applied for balance of payments purposes should be applied in a way as to avoid any protective effect. Several Members expressed concern about the adverse impact of the measure on their exports.

46.  The majority of Members recognized Ukraine's BOP difficulties and considered it had applied the measure consistently with WTO provisions, although they encouraged it to remove the surcharge as soon as possible. In this regard, the Committee noted the commitment undertaken by Ukraine to terminate the measure by the end of 2015 as agreed by Ukraine with the IMF, noting that IMF programme projections did not presently indicate a balance of payments need for the surcharge beyond 2015. The Committee also noted that Ukraine stated as its objective that the level of national reserves should reach US$18 billion, i.e. to cover no less than three months of imports, as a benchmark for its policy. One Member considered that Ukraine's measure was not justified by the BOP provisions of the WTO Agreement.

47.  The Committee noted that it was not possible to reach consensus, and therefore decided to conclude the consultations.

48.  While the measure described remains in force, Members reserve their rights under GATT 1994.

_______________

ANNEX 1

Committee for Balance of Payments

Opening Statement From Ukraine

28 April 2015

Thank you, Mr. Chairman,

Allow me to begin by thanking the representatives of the Members for gathering here for the meeting of the Balance-of-Payments Committee to hold consultations on the measure adopted by Ukraine.

The delegation of Ukraine appreciates the efforts of the International Monetary Fund. We on our part ensured open transparent and fruitful cooperation during its mission in January‑February this year in Kiev, which resulted in objective evaluation of the situation in Ukraine, its challenges and prospects for Ukrainian economy.

I also thank you the Secretariat for preparation of a comprehensive background document, which will also help the Members in regarding the situation in Ukraine.

Mr. Chairman,

In 2014 Ukraine's balance of payments was affected by a unique combination of extremely adverse factors, such as – unfavorable market prices for major Ukraine's export goods, in world market, introduction and unjustifiably and unpredictably escalated barriers and bans to Ukrainian exports on a traditional neighboring market, military conflict in Eastern Ukraine and annexation of Crimea, which led to dramatic deterioration of Ukraine's economic situation. In its turn led to destabilization of the banking system, devaluation of the national currency and hit hard the economy.

In 2014 the balance of payments has been formed as negative at more than US$13.3 billion while in 2013 it was positive at US$2.0 billion. By the end of the year Ukraine's international reserves amounted to US$7.5 billion, which provided funding for 1.4 months of future imports, while the minimum acceptable level is considered to be at about 3 months.

This downward trend continued in 2015, and as of 1 of March 2015 the international reserves decreased to US$5.6 billion, equivalent to less than a month of imports.

Given the severity of state of the balance of payments and further threat to it, Ukraine introduced the temporary import measure to safeguard its external financial position and restore equilibrium of the balance of payments in accordance with provisions of Article XII of the GATT 1994 and Understanding on Balance-of-Payments Provisions of the GATT 1994.

The legal basis for introduction of the measure is the Laws of Ukraine "On measures concerning stabilization of the balance of payments of Ukraine in compliance with Article XII of the GATT 1994" and "On Amending the Customs Code of Ukraine (concerning stabilization of the balance of payments)".

These laws entered into force on 25 of February 2015 upon publication of the Cabinet of Ministers' Decision "On completion of consultations with international financial institutions". The measure was dully notified to the WTO .

The measure is price – based, applied on a MFN basis, in the form of import surcharge at non-prohibitive rates of 5% for industrial and 10% for agricultural goods. Ukrainian Customs levies it strictly on the ad valorem basis.

Import surcharge is levied on goods imported to the customs territory of Ukraine regardless of country of origin and signed agreements (treaties) of Ukraine on free trade. FTA members are not excluded from the measure.

In line with paragraph 4 of the Understanding on the Balance of Payments Provisions of the GATT 1994, the measure regulates the total level of imports and does not exceed the extent that is necessary to resolve the balance of payments situation. The measure does not discriminate against specific products.

As provided in paragraph 3 of Article XII of the GATT 1994 Ukraine the made a list of essential goods exempted from the application of the import surcharge such as oil, natural gas, non-irradiated fuel elements, electrical energy, coal, gasoline, medical devices for dialysis and treatment of cancer patients.

Thus, recognizing the value and benefits of liberalized trade, taking careful steps to avoid creating unnecessary obstacles to trade flows, Ukraine introduces measures only to regulate the total level of imports and applies surcharge on the level which is not exceeding the extent that is necessary to resolve the balance of payments situation.

I want to emphasize that the introduction of the import surcharge is one in the row of many national policies and reforms being undertaken by Ukraine to restore its macroeconomic and financial stability.

The Government of Ukraine has undertaken additional measures to address long‑standing structural weaknesses to lay foundation for sustainable growth. Specifically, the reforms aim at:

Securing financial stability – restoring price stability, flexibility of exchange rate, strengthening banks' financial health

Strengthening public finances – an expenditure-led adjustment will support fiscal consolidation. Together with energy sector reforms and the announced debt operation, this would reduce fiscal imbalances and achieve public debt sustainability

Advancing structural reforms, which helps to revitalize the business climate, attract investment, and enhance Ukraine's growth potential

Governance reforms (anti-corruption and judicial measures), deregulation and tax administration reforms, and reforms of state-owned enterprises (transparent privatization, international audit of public companies) and energy sector reforms restructuring increase energy efficiency.

At the same time, the Government of Ukraine has been cooperating closely with the IMF and other donors to obtain resources to stabilize the situation and give impetus to growth. In March 2015 Ukraine and the IMF concluded a four-year program under the Extended Fund Facility (US$17.5 billion). The extended facility will help to ensure a strong policy framework to catalyze further external financing from multilateral and official bilateral creditors, helping to mitigate financial risks.

In March 2015, Ukraine have received US$5 billion, which increased Ukraine international reserves up to US$9,97 billion. But we should emphasize it is only the first tranche of IMF's loan and that amount of money should be repaid as well as its interest rate.

 Besides, to improve situation with Balance of Payments and national reserves, the National Bank of Ukraine maintained flexible exchange rate regime and tightened its monetary policy, raising its key policy rate to 30% (from 14% at the beginning of 2015).

The Government of Ukraine has already implemented an unprecedented plan of austerity measures, pensions freeze, substantial cuts of salaries of government officials and limits for budget expenditures, etc.

Why different level of rates of import surcharge 10% for agricultural and 5% for industrial products?

Firstly, I would say that the BoP provisions do not contain any discipline that would strictly prescribe how to introduce surcharge rates.

Secondly, we considered the structure of imports. Our liberalized at WTO tariff regime – tariffs in most cases are 0 (bound and applied) were the factors in determining the level of import surcharge.

Different domestic conditions for agricultural and manufactured products were also considered. Thus, the share of imported products that are used as inputs for production of agricultural products is 8% overall. In industrial production as a whole, the share of imported products that are used as inputs is quite significant, 41.5% overall.

The agricultural goods are mainly consumer goods, and for a short period of time consumers may easier readjust its demand and switch to the local products without affecting economic growth potential. So higher rates are acceptable. At the same time significant part of industrial goods is used as inputs for further production. So we tried to lower the negative effects on economic growth potential from increase in the price of such type of goods by imposing a lower rate of surcharge.

In our view the rates of import surcharge do not exceed the level that is necessary to address the balance of payments situation, they restrict imports but definitely they are not prohibitive.

Mr. Chair,

I want to underline that this BOP measure is adopted and implemented in a transparent manner and is a short-term safeguard with a clear commitment by the government to terminate it the measure by the end of 2015. The measure may be terminated even earlier once we see improvement in the balance of payments situation.

Ukraine also seeks to create conditions for the inflow of capital to improve its BoP.

The government of Ukraine is undertaking the whole range of reforms. The IMF has supported this policy by a new program approved by the Executive Board on 11 of March. From a financing standpoint, the objective of the program is to cover Ukraine's external financing needs, estimated at about US$40 billion over the next four years. the program with IMF is based on monthly reviews and performance criteria. Ukraine expects that this positive sign is boost investor confidence and bring back the inflow of capital to Ukraine

The Basic document contains a more detailed explanation of the information to which I am referring to. Moreover, in the course of these consultations we are ready to provide additional clarifications and information on rationale for the measure introduced by Ukraine.

Mr. Chairman,

Ukraine seeks understanding of Committee of the measure introduced to safeguard its balance of payments under exceptional conditions. We are ready to work with Members to help build consensus and call upon Members to take into consideration the most difficult times in the modern history of Ukraine with severe multiple unprecedented challenges to its sovereign economy and trade, which makes this case unique.

Thank you, Mr Chair.

11 June 2015

Mr. Chairman,

Allow me to begin by thanking you and the Members of the Committee for the meeting today on the measures adopted by Ukraine to safeguard its balance of payments.

During our previous meeting on 28 April 2015 Ukraine explained the reasons and rationale for the measure, which was adopted in a transparent manner and in accordance with Article XII of the GATT 1994 and Understanding on Balance-of-Payments Provisions of the GATT 1994.

We emphasized that the measure is temporary, price-based, does not exceed the extent necessary to address the balance-of-payments problem. It is applied on an MFN basis, in the form of import surcharge at non-prohibitive rates. It is being levied on ad valorem basis, regardless of country of origin. FTA members are not excluded from the measure.

Today I want to again remind the Members and underline that the imposition of the import surcharge is not a single measure adopted by Ukraine. It is part of a wide package of measures and reforms by Ukraine aimed at restoring its macroeconomic and financial stability.

We thank the Members for their questions, which mainly concerned with economic justification for the measure and its effect on the situation with balance of payments.

Prior to this meeting Ukraine provided written answers to the Member’s questions. Also my delegation has held some bilateral meetings with interested Members to further clarify the measure.

In order to dispel some concerns of Members as regards application of import surcharge we want to highlight the following.

Ukraine is monitoring on a monthly basis the BOP measure effectiveness in terms of improving situation with the current and financial accounts. The Government also is talking to businesses, which helps see the holistic picture in real-time format.

According to the statistical data in January – April 2015 current account deficit amounted to USD 0.3 bln. (83% less than in the same period of 2014 – USD 1,5 bn.). An improvement in the current account balance primarily occurred on the import side, as exports remained weak.

Deterioration of Ukraine’s export potential is a result of annexation of Crimea by the RF, military conflict in eastern Ukraine, Russia’s trade restrictions and bans on Ukrainian goods, depreciation of the national currency. One of the reasons is a decline in world commodity prices. In particular, exports of goods and services fell by 33.6% in January – April 2015 mainly on account of food products, metals, machinery and equipment, transportation and travel services.

A significant reduction in domestic demand led to a 35.6% decline in imports of goods and services in January – April this year,  particularly due to lower imports of consumer goods (foods and automobiles). In March-April 2015 current account recorded a small surplus, which among other factors was due to the introduction of an import surcharge.

In January – April 2015, the financial account deficit amounted to USD1.8 bln despite USD 0.5 bln of official financing (excluding IMF). The deficit was mainly a result of low rollover rate on external debt of the private sector.

The inflow of capital was critically low due to high risks of violation of the Minsk-2 ceasefire agreement, investors’ uncertainties related to sovereign and quasi-sovereign debt restructuring and the timing and degree of relaxation of temporary administrative measures introduced by the National Bank of Ukraine on foreign exchange and capital transactions.

Despite the gradual narrowing of the financial account deficit, real sector arrears on foreign liabilities increased by USD1.7 bln in January–April 2015, indicating there is a significant risk of deferred capital outflows.

Gross international reserves fell from USD20.4 bln at the beginning of 2014 to USD5.6 bln as of the end of February 2015. Countries – members of IMF, who are as well Members of the WTO, have recently adopted Extended Fund Facility Loan for Ukraine, which is  a 4 – year program. Due to the first disbursement the international reserves recovered to USD9.6 bln as of end of April 2015.

According to our estimates, the total effect on imports is at about USD 0.8 -1.0 bln in 2015 (starting the effective date through the rest of 2015).

The benchmarks for termination of the measure are as follows :

·     end of 2015 year as  a commitment undertaken by Ukraine with the IMF

·     the level of national reserves should reach USD18 bln, i.e. to cover no less than 3 months of imports

To conclude I would like to say that Ukraine seeks understanding of the Members of the uniqueness of its present-day situation caused by a whole number of unprecedented adverse factors.

Thank you, Mr. Chair.

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ANNEX 2

Ukraine—Statement by the IMF Representative at the Consultation of the WTO Committee on Balance of Payment Restrictions

28 April 2015

Ukraine launched ambitious reforms in 2014 supported by a Stand-By Arrangement (SBA) to address macroeconomic imbalances and structural weaknesses. The SBA approved in April 2014 aimed to restore macroeconomic and financial stability while addressing long-standing structural weaknesses to lay a firm foundation for sustainable growth. Specifically, policies and reforms were initiated to restore external solvency and replenish international reserves by introducing a flexible exchange rate regime, stabilize the financial system, secure fiscal sustainability, restructure the energy sector, and improve governance.

However, macroeconomic shocks and geopolitical tensions in the second half of 2014 further deepened the crisis. The escalation of the conflict in Eastern Ukraine in August 2014 led to a significant loss of confidence and resulted in a large supply shock to the industrial base, not least exports. This shock, along with existing vulnerabilities—high short-term external debt relative to reserves, high exposure of banks to foreign funding, balance sheet mismatches, and weak fiscal position—led to a rapid deterioration of Ukraine's economic outlook and capital flight which hit hard the economy and banking system. Economic activity is estimated to have contracted by 6.8% in 2014. International reserves fell to critically low levels (US$6.4 billion at end-January 2015 or 1.1 months of next year's imports and 15.3% of short-term debt) as a result of BOP outflows and FX interventions. While the current account deficit in 2014 declined substantially relative to 2013 (to an estimated 4.8% of GDP), conflict-related shocks limited the improvement. New financing needs emerged, while international debt markets remain closed. The hryvnia lost about two-thirds of its end-2013 value, which worsened bank balance sheets and raised public debt.

In response to strong balance of payments pressures, the authorities tightened macroeconomic policies and introduced temporary administrative measures. The extent of outflows and delays in arranging additional external financing led to the tightening of capital flow management measures and other administrative measures on foreign exchange flows in the fall of 2014, and the introduction of a temporary import surcharge for twelve months on February 25, 2015.^[1] The import surcharge of 5 and 10% covers all imported goods except essential goods (energy and pharmaceuticals).^[2] It is estimated to reduce the current account deficit by US$1 billion and could provide budget revenue of about 1% of GDP. While Fund staff encouraged the authorities to explore other, less distortive, options to improve external sustainability, the authorities were not able to find feasible alternative measures against recessionary headwinds and the intense balance of payments pressures. Nevertheless, the authorities have indicated their intention to remove the import restrictions by end-2015.

To address the continuing large shocks and protracted balance of payments problems, the authorities requested a four-year, 900% of quota (about US$17.5 billion), extended arrangement under the Extended Fund Facility (EFF), which was approved by the IMF's Executive Board in March 2015. The EFF will be supported by considerable additional financing from other multilateral institutions and official bilateral creditors and contributions from the private sector through a public debt operation. Total financing is expected to amount to US$40 billion in 2015–18, supporting policy adjustment and reforms necessary to restore stability and boost Ukraine's medium-term prospects. In particular, the authorities are committed to (i) maintaining a tight monetary policy stance and exchange rate flexibility to reduce pressures on the balance of payments; (ii) advancing fiscal adjustment and eliminating Naftogaz deficit to strengthen public finances; (iii) rehabilitating the financial sector, through bank recapitalization, unwinding of related party lending, and resolution of NPLs; and (iv) structural reforms to revitalize the business climate, attract investment, and enhance transparency. Towards this end, the authorities have implemented an ambitious set of prior actions that include large increases in household energy prices, legislative measures to strengthen the anti-corruption agency, banking reforms to reduce related party lending, and approval of a revised budget with more sustainable fiscal measures.

The steadfast and timely implementation of the program supported by adequate external financing will help the economy rebound in the coming years. GDP growth would bottom out in 2015, declining by 5½% before gradually recovering in 2016 and reaching 4% over the medium term. The current account deficit would stabilize at around 1½% of GDP over the medium term on the back of a gradual export recovery. External financing would support the gradual build-up in reserves, reaching US$18.3 billion, or 3.3 months of imports (44% of short‑term debt) by end-2015 and further increase to 3.7 months of imports (57% of short-term debt) by end-2016. Adequate reserve levels would be reached by end-2017, supported by new market financing. Although these are relatively conservative projections, risks to the outlook are exceptionally high. Nonetheless, in line with the improved financial and exchange rate stability and accumulation of reserves projected under the program, staff supports the authorities' plan to eliminate the import surcharge by the end of 2015.

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