bne IntelliNews – West approves much-needed budget support to Ukraine, but delays distribution of funds

The United States and the European Commission have approved much-needed financial support programs for Ukraine to shore up Ukraine’s public finances, but the distribution of the money has been slowed by bureaucratic delays.

The United States and the EC have signed similar financial packages to support budget expenditures of $9 billion and €8 billion each to help finance Ukraine’s budget expenditures which are currently deeply in deficit. However, despite the approval, neither Washington nor Brussels released the money due to accountability issues.

The Kyiv School of Economics raised its estimate of the cost of physical damage to Ukraine’s economy from $104 billion to $165.1 billion needed for post-war reconstruction. Damaged housing accounts for almost 40% of losses, which amount to $36.6 billion, according to KSE’s latest update of its “Russia Will Pay” study. Estimates of the total cost of the war for Ukraine range from $600 billion to over $1 trillion.

The EC has approved a second tranche of macro-financial assistance which follows a decision taken two months ago on a first tranche of €1 billion which was finally approved this week. The macro-financial assistance program has been running for years and was in place before the start of the war, but was massively scaled up due to the destruction of Russia.

An EC spokeswoman said the money would be released “soon”, Evropeyska Pravda reports, but was unable to give a specific date as the Council of Europe and the European Parliament all need to two approve the show.

“It is important to underline that we intend to present a proposal for the provision of the remaining macro-financial assistance shortly. And the remainder will comprise the total amount of assistance that has been agreed by the European Council for the reconstruction of Ukraine. Technical work on the second tranche is underway to deliver it as soon as possible,” she said.

While the spokeswoman reassured the EC would continue to work through the summer, she also said the next session of the European Parliament is not expected to take place until September.

Germany has also blocked 9 billion euros in EU aid to Ukraine for more than a month, out of concern for accountability, as it fears the money could be stolen, according to reports. Previous calls for a Marshall Plan for Ukraine before the war were stillborn as European lawmakers had no confidence that any general investment money sent to Kyiv would not be diverted to corruption schemes by Ukrainian officials and oligarchs. The West has constantly called on Kyiv to tackle its endemic corruption, with little result.

The stalled loan and deadlocked talks have been confirmed by various protagonists both in Kyiv and Brussels, local media reports, who speculate that this could have been the reason for Ukrainian President Volodymyr Zelenskiy’s decision to remove controversial Ukrainian ambassador to Germany Andriy Melnyklast week, who has been an extremely vocal critic of Berlin’s reluctant support for Kyiv.

Similar problems hampered the release of American money. A US Congresswoman, Victoria Spartz, reported on problems the US had with funding Ukraine and said some of them were related to overseeing the funds allocated on July 12. She added that “Republicans and Democrats are very worried about how we will oversee a large amount of money that we have spent in Ukraine. That is to say, the problem I am talking about exists at the bipartisan level! And you have to solve it! There will be big problems in Ukraine if the Ukrainian government does not come to an agreement with us now. Ukrainians do not understand that Congress controls where and what US money is spent.

Economists warn that Ukraine cannot afford to wait until September and faces a growing balance of payments crisis if more money to cover government spending is not made available soon .

The first concrete signs of unrest emerged on July 12 after the state-owned national gas giant Naftogaz asked holders of its $1.4 billion in bonds to voluntarily delay coupon payments, as the company “needs to preserve cash” to purchase some 5.6 billion cubic meters of winter gas at a cost of $7.6 billion, the company said in a press release. The delay technically constitutes a default on the bond.

“It looks like Ukraine is going to default here after the fact. Because no one has fully thought about the consequences. Naftogas, the state gas company seems to want to pay a deadline of around $350 million due over the next few days and that looks set to trigger a chain of events which will then likely see sovereign default on $2.2 billion in debt due in September Our reading is that Naftogas management wants to pay/because they believe that a default will make their task of finding financing to purchase critical gas imports over the winter that much more difficult. Someone in government appears to be pushing for non-payment. A default by Ukraine would be a win for Putin. He would argue that the default reflects the fact that ultimately the West is not committed enough to Ukraine to write enough checks to keep Ukraine in the loop. If Ukraine defaults, he may well be right,” said Timothy Ash, senior sovereign strategist at BlueBay Asset Management in London, in a note to clients.

As bne IntelliNews reported, Ukraine lacks money and is unable to finance its budget expenditures. Since the start of the war, Ukraine has received a total of $8-11 billion from international donors, according to various estimates, but is running a shortfall of $4-5 billion per month.

Ukraine’s finance ministry said earlier this week that foreign funds covered only half of Ukraine’s budget needs of $22 billion in March-June. Between March and June, Ukraine received just $10.2 billion in foreign loans and grants, according to the ministry. The money sent was used to partially cover the deficit. Since the war, Ukraine’s partners have pledged to provide loans and grants worth $32 billion, but the government has estimated it needs $39 billion and, more recently, at the conference on the reconstruction of Ukraine, it increased this amount to 69 billion dollars.

Most budget funding currently comes from the NBU, which has been printing money and transferring money directly to the government since the start of the war. The government has also dipped into the NBU’s hard currency reserves, which have fallen by some $5 billion since the start of the war to around $22.76 billion this month – their lowest level in two years. Due to dwindling reserves, the hryvnia has come under pressure and strict capital controls have been used to stop currency devaluation and a dual exchange rate not seen in a decade is starting to reappear on the streets Ukrainian cities.

Cut off from almost all other sources of funding, the Ministry of Finance turned to the local bond market, and the issuance of war bonds became the government’s second source of revenue.

Declining appetite for bonds in recent weeks has led the ministry to raise dollar military bond rates to 4-4.5% this week in hopes of attracting new capital, but the rise was not enough and the last auction in local currency increased to the disappointing UAH143.5mn. However, dollar-denominated bonds were more attractive and returned $330.5 million this week, almost all at the short end of the curve. UBN reports that US dollar military bond rates were:

• 3.5% 3-month bonds attracted $140.6 million

• 6-month 4% bonds attracted $183.8 million

• 1-year 4.5% bonds attracted $6 million

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