Handshakes and smiles hide investors’ concerns for Ukraine

Exchanging warm handshakes and smiles, Ukraine’s cabinet ministers lined up to be photographed with US commerce secretary Penny Pritzker and an entourage of senior US executives who joined her for the autumn visit to Kiev.

As they settled into deep leather chairs for discussions, Ukraine’s prime minister made his pitch for investment. He pledged to promptly address any concerns executives had.

“You have questions, we have answers. You have investments, we are ready to receive them,” Arseniy Yatseniuk told his US visitors.

Yet, as discussions continued, it emerged new investors had not shown up. Ukrainian officials heard a mix of praise on recently implemented reforms and warnings that further investments from some of its largest existing investors — the likes of Cargill, a farming services provider, Citibank and DuPont, the agrochemical company — hinged on improvements to a still horrible business climate, a weak judiciary and the shaky rule of law.

“There’s been progress made,” Ms Pritzker said. She pointed to macroeconomic stability achieved through austerity and fiscal prudence, both conditions of a $40bn bailout led by the International Monetary Fund. She announced a third $1bn US-guaranteed loan “to support continued progress in advancing reforms . . . that will be important to unlock international investment in Ukraine and lay the groundwork for return to growth”.

But she stressed disbursement was “conditioned on Ukraine’s progress on implementing its economic reform programme, including, of course, adherence to the IMF’s programme and concrete forward momentum in the ongoing fight against corruption”.

The exchange highlights the sobering reality for cash-strapped Ukraine. Even if Kiev ends a smouldering war with Russian-backed separatists that has plunged it into deep recession, it must pick up the pace to improve the business environment and conquer the widespread corruption that continues to bleed budget coffers and businesses dry, from high-level, rent-seeking scams to lower-level graft fostered by choking bureaucracy. Only then does it stand a chance of attracting investment at levels needed to secure sustained growth and higher living standards that millions of Ukrainians two years ago hoped the Maidan revolution, which toppled Moscow-backed president Viktor Yanukovich, would deliver.

The task is daunting. To catch up with Poland, Ukraine must quadruple the $62bn in direct foreign investment attracted since independence in 1991.

After peaking at nearly $10bn in 2008, net foreign direct investment (FDI) inflows inched up to $2bn in eight months of this year after plunging to some $300m in 2014. “It was not supposed to be a year of massive FDI . . . at the start of the year we still had people dying in large numbers on the frontline,” says Aivaras Abromavicius, Ukraine’s economy minister.

Pointing to “36 months of successive productivity decline”, he says: “We obviously are far, far behind and need to accelerate . . . to offer investors light regulatory framework, rule of law, quite a few things. We achieved macroeconomic stabilisation . . . the country is changing.”

Simplified business registration boosted Ukraine four points in the World Bank’s Doing Business 2016 ranking to 83rd out of 189 countries.

Deeper deregulation and other reforms would advance a country that has shot up 69 places since 2012, when it ranked 152nd.

Near-term challenges focus on overhauling and streamlining bloated and dysfunctional government institutions, foremost unruly courts, prosecutors, and tax and customs services.

Political will is needed to create the conditions for business to invest

Copying the model of a recently launched police force, new staff will be competitively hired and better paid, reducing vulnerability to corruption.

It is an approach borrowed from nearby Georgia. A decade ago, under the 2004-2013 presidency of Mikheil Saakashvili, the Caucasus country climbed to the top of the World Bank ranking.

Now exiled from Georgia, Mr Saakashvili, who governs Ukraine’s Odessa region and advises Kiev on reforms, stresses the need to privatise mismanaged state enterprises swiftly.

Many, he says, are being milked dry by vested interests that skim and transfer profits into offshore, middleman companies.

Mr Saakashvili says companies from the US, Europe and Turkey have expressed interest in potentially lucrative state-run businesses. “There are many big cash earners, like the Odessa Portside chemical plant. Once you do one or two tenders really well, you generate lots of cash. Once [investors] buy it, you can generate lots of tax income. That’s how a real economy works.”

He describes Ukraine as “the next big tiger of Europe” and full of “amazing” but untapped potential, from rich resources and low-cost but skilled labour to a location perfect for exporting.

Mr Abromavicius adds that investments are trickling into the promising agriculture sector and ports, and singled out plans by auto parts manufacturers, including Japan’s Fujikura, to build factories near Ukraine’s border with the European Union.

Additionally, billionaire philanthropist George Soros has pledged to invest $1bn in what he calls “the new Ukraine”, and plans to invest in a leading domestic IT company called Ciklum and provide seed money for an investment fund managed by Kiev-based Dragon Capital.

“Given substantially lower costs of production, opening up of the EU market from the first of January [through a trade agreement], Ukraine can become some sort of a factory for Europe,” Mr Abromavicius says.

Officials routinely highlight such vast opportunities at road shows. However, as Ms Pritzker stressed during the Kiev discussions with Ukraine’s government: “Ultimately, the political will is needed to create the conditions for businesses to continue and make greater investments.”