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Cablegate: Ukraine Imf Visit Highlights Deepening Bank Crisis

VZCZCXRO8420
PP RUEHIK RUEHLN RUEHPOD RUEHVK RUEHYG
DE RUEHKV #2097/01 2911702
ZNR UUUUU ZZH
P 171702Z OCT 08
FM AMEMBASSY KYIV
TO RUEHC/SECSTATE WASHDC PRIORITY 6570
INFO RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUCNCIS/CIS COLLECTIVE
RUEHZG/NATO EU COLLECTIVE

UNCLAS SECTION 01 OF 02 KYIV 002097

SENSITIVE
SIPDIS

DEPT FOR EUR/UMB, EEB/OMA
TREASURY PLEASE PASS TO TTORGERSON

E.O. 12958: N/A
TAGS: EFIN ECON ETRD PGOV XH UP
SUBJECT: UKRAINE IMF VISIT HIGHLIGHTS DEEPENING BANK CRISIS

REF: KYIV 2030 AND PREVIOUS

SENSITIVE BUT UNCLASSIFIED, NOT FOR INTERNET DISTRIBUTION

1. (SBU) Summary. The International Monetary Fund (IMF) is not
commenting on the substance of its ongoing discussions with the
government of Ukraine (GOU) on a possible support program, but its
representatives told us on October 17 that the delegation's stay in
Kyiv was open-ended. PM Tymoshenko said the IMF was prepared to
loan Ukraine anywhere from $3 to $15 billion and suggested the IMF
would expect the country to delay early parliamentary elections.
There was no independent confirmation of Tymoshenko's claims,
although various analysts speculate that IMF support could total $10
to $15 billion. Although the National Security and Defense Council
(NSDC) will continue discussions on an economic emergency package on
October 20, the GOU, President Yushchenko, and the National Bank of
Ukraine (NBU) have not demonstrated they can form a consensus to
tackle the crisis and jointly accept IMF conditions for an
assistance package.

2. (SBU) Attention of market participants in Kyiv is now focused on
how Ukraine will finance $50 to $60 billion in external commitments
due in 2009. The NBU's foreign exchange reserves of $37 billion are
not sufficient to cover the expected commitments, and international
sources of funding, used heavily by Ukraine's private sector in
recent years to fuel growth, have all but dried up as a result of
the world's financial crisis. There has been speculation,
unsupported by any GOU statements, that Ukraine may seek exceptions
to its WTO commitments to deal with the deteriorating balance of
payments situation. End Summary.

IMF Silent on Substance, GOU Plans Unclear
--------------------------------------------- ----------

3. (SBU) The IMF delegation, the first in five years to Ukraine,
continued its discussions with the GOU on October 17. The local IMF
office would not comment on the substance of the discussions, but
told us only that the delegation was planning to remain in Ukraine
on an "open-ended" basis. IMF Managing Director Dominique
Strauss-Kahn was quoted as saying that the IMF was prepared to help
Ukraine, and PM Tymoshenko said that the IMF could loan Ukraine
anywhere from $3 to $15 billion. There was no independent
confirmation of the figures cited by Tymoshenko. NBU deputy
governor Oleksandr Savchenko, leading the negotiations with the IMF,
has suggested that an IMF deal may be signed as early as next week.
Various analysts have speculated that Ukraine may be seeking a
$10-15 billion "stand-by" program.

4. (SBU) Parallel to the IMF discussions, the National Security and
Defense Council (NSDC) began discussing an emergency package to
support Ukraine's banking system and fend off a balance of payments
crisis. The NSDC announced that it would meet again on October 20
to approve the package. The NSDC would not comment on the measures
being discussed, but various media reports speculated that the
package would, among other measures, focus on boosting Ukrainian
exports while diminishing imports. There was even speculation that
Ukraine would request from the WTO exemptions from its commitments
in order to deal with a potential payments crisis. However, Post
has not had any GOU confirmation that this might be the case.

5. (SBU) Any IMF support will focus on stabilizing Ukraine's
banking system and helping the country meet its external debt
obligations, particularly in the short term. Discussions among
market participants and analysts in Kyiv in recent days have focused
on the composition and term structure of Ukraine's external debt,
which has grown by about 45 percent in the past two years and
currently totals roughly $100 billion, or 60% percent of GDP. Of
this debt, about $15 billion is public sector debt, $38 billion is
debt owned by banks, and $43 billion is external debt of Ukraine's
corporate sector. The rest is inter-company lending.

6. (SBU) Most observers have argued that the level of external debt
by the public sector, which has remained fairly constant in recent
years, is not a source of concern. The GOU is not dependent on
external borrowing to finance its modest budget deficit, and it
could turn increasingly to internal sources of funding if the
international capital markets remain as dormant as they are now.
While less is known about the composition of the $43 billion in
external debt owned by Ukraine's corporate sector, several analysts
have pointed out that it is concentrated in a few hands, primarily
the largest and most well-known Ukrainian companies with
international exposure.

Banking Vulnerabilities the Chief Concern
--------------------------------------------- -------


KYIV 00002097 002 OF 002


7. (SBU) During an October 16 discussion, Dominique Menu, country
head for the Ukrainian subsidiary of the French bank BNP Paribas,
said his bank believed that corporate borrowers are typically cash
rich and have low debt-to-capital ratios. Separately, Jock
Mendoza-Wilson, head of investor relations at System Capital
Management (SCM), the holding company of Rinat Akhmetov, Ukraine's
wealthiest businessman, told us that SCM had "low gearing" in its
balance sheet and sufficient sources of internal funding, even in
light of the recent and drastic drop in steel production and prices.
The inability to borrow abroad would not harm SCM's current
operations, but it would all but destroy SCM's aggressive foreign
expansion plans. SCM had hoped to borrow heavily in coming years to
finance $6 billion in foreign acquisitions, Mendoza-Wilson told us.


8. (SBU) The banking sector, which has grown rapidly in recent
years on the back of aggressive foreign borrowing, is the main focus
of concern. BNP Paribas' Menu said risks mainly reside in each
individual bank's external debt and asset profile. There was little
concern about a chain reaction, or domino effect, of bank failures,
because banks do very little business with each other. Currently,
loans to other banks equal only 2 percent of bank assets, he pointed
out. Instead, the main risk was banks' ability to roll-over short
term external debt, now around $13 billion, that will come due in
the coming months.

9. (SBU) Ukrainian banks controlled by foreign banks owe roughly 70
percent of the $38 billion in external bank debt, and another 10 to
15 percent is owed by banks owned by the largest Ukrainian
oligarchs, Menu estimated. BNP Paribas is still operating on the
assumption that foreign banks would remain interested and able to
provide their Ukrainian subsidiaries with the minimum funding they
need to stay afloat, and that cash-rich oligarchs would likewise
support their banks if necessary. The biggest challenge would lie
with the remaining Ukrainian banks that had neither strong foreign
or domestic backing, he said.

10. (SBU) There is consensus among our interlocutors that Ukraine's
external situation, as well as its short-term financing, remain
precarious. On October 16, Citibank country director Nadir Shaikh
said his bank expects that Ukraine will need to finance about $50-60
billion in external payments in 2009. Of this total, some $15 to
$18 billion will be Ukraine's current account deficit, which has
more than doubled since last year and could reach 10 percent of GDP,
he estimated. (Note: Other analysts expect a current account
deficit of up to $24 billion.) Another $20 billion will be needed
for servicing the long-term debt -- this includes about $12 billion
of long-term debt coming due and $8 billion of interest -- and the
remaining $15 billion will be short-term debt coming due.

11. (SBU) The NBU's foreign exchange reserves -- currently about
$37 billion -- cannot cover the expected financing need, Shaikh
pointed out, and the world's capital markets have all but dried up.
Citibank viewed Ukraine's position as critical, and said that the
next six to nine months would be the most difficult time for the
country, but the situation could improve in the second half of 2009
if world markets stabilize. The NBU had already lost about $1.5 in
reserves since October 3 to support the hryvnia. Further
devaluation of the currency, which has lost 9.2 percent in recent
weeks, was inevitable, Shaikh said.

12. (SBU) Shaikh and others were skeptical about the GOU's ability
and willingness to effectively address the crisis. He pointed out
that the IMF would impose conditions in exchange for an assistance
package, but it is still unknown whether the Tymoshenko government
and President Yushchenko can jointly agree on IMF stipulations. The
institutional rivalry and lack of trust between the NBU and the
Ministry of Finance could further complicate matters, he said.

13. (SBU) Comment. Bad blood between Yushchenko and Tymoshenko has
already colored the domestic political discussion on measures needed
to address the potential balance of payments crisis. Yushchenko has
openly blamed Tymoshenko. Tymoshenko has tried to downplay the
significance of the situation, but is now modifying her position as
it becomes clearer that action is necessary. She has suggested that
the IMF would expect that Ukraine delay the early elections in
return for its support. Ministers from Timoshenko's BYUT-led
government, including Viktor Pynzenyk and Oleksandr Turchynov, have
spoken out in favor of an IMF deal. Analysts suggest that IMF
funding might help them drive through difficult structural reforms
on privatization and domestic gas price liberalization, measures
normally off-limits for the bloc's populist wing. In any case it
is still too early to tell how the economic crisis will influence
the political situation in the country. End Comment.

TAYLOR

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