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Russia/Ukraine: Despite Reforms, Economies Still Not Market-Ready

Hong Kong, 17 September 1997 (RFE/RL) - The International Monetary Fund (IMF) says that despite the progress toward market reforms made by both Russia and Ukraine, neither country has yet fully established a market environment in which private sector activity can thrive.

In a special note in the IMF's semi-annual update of its World Economic Outlook Report released today in Hong Kong, the fund says that elements of the old government-dominated system are still in place, particularly in Ukraine.

It said government regulation and intervention in the economy remain widespread, nurturing "administrative malpractices and perpetuating distortions."

The fund says the structure of government spending in both countries is "still tilted toward unproductive expenditures" and government revenues are difficult to mobilize because of an inefficient, non-transparent, and "onerous" tax system.

At the same time, says the report, the institutional framework for the new market system is "far from complete" -- things like an effective legal and judicial system that defines and protects property rights, enforces contracts, and ensures law and order are still largely missing.

Structural weaknesses in the regulatory, judicial and tax systems inhibit investments and further contribute to a slow resumption of growth, says the IMF.

Russia and Ukraine have both prided themselves in their progress on privatization, but the IMF report says that dispersed and insider (manager)-dominated ownership has contributed to weak corporate governance in newly privatized firms, and that in turn has reduced the incentives to restructure the enterprises.

The report says it is estimated that three-fourths of formerly state-owned enterprises in Russia still need "radical restructuring," that around half are currently making losses, and that at least one quarter of them should be put through the bankruptcy process.

The report adds: "the situation in Ukraine appears to be even worse."

Another area of concern in both countries is weak banking systems, says the IMF. Weak banks are forced to take a "markedly diminished role" in the real economy and are thus hindered in financing sustainable economic growth.

Without that bank financing, Russian and Ukrainian enterprises have very limited access to alternative revenue sources.

The IMF says the statistics bear this out. At the end of 1996, banking sector claims on the private sector in Russia and Ukraine -- the amount of loans -- were less than 10 percent of GDP (gross domestic product, a measure of the size of the economy.) That is compared to about 40 percent in the more advanced Central and East European countries, and to over 80 percent in the advanced economies of the world.

Part of the problem is that the banks invest their money into government instruments because they pay higher interest, but the fund says that "significant declines" in treasury bill rates in recent moneys have "improved prospects" that the banks will begin shifting toward lending to enterprises and that those loan interest rates will also fall in coming months.

The fund says, however, that additional measures to improve the infrastructure for capital markets and to strengthen the banking system are also needed.

The ultimate aim of all this is to get the Russian and Ukrainian economies growing again, and in it's report, the IMF says the decline appears to have ended in Russia, but not yet in Ukraine.

It projects that Russia's economy will grow by 1.7 percent this year -- its first real growth in a decade -- but that Ukraine will suffer a further three percent decline in its economy in 1997.

Notwithstanding the difficulties in tracking precise economic activity, says the fund, there is "little doubt" that the rebound in growth in Russia and Ukraine has been slow to materalize compared with the central and eastern European and Baltic transition countries.

It says part of the explanation can be found in delays in stabilization. Russia and Ukraine didn't begin stabilization in earnest until the middle of 1995 and there has tended to be a lag of around two years between stabilization taking hold and the resumption of growth.

Whether either has actually turned the corner toward growth, says the IMF report, in fact many factors have worked to slow their progress and continue to restrain their development.