Cyprus Fallout Risks Tipping Ukraine Into Crisis, Capital Says

Fallout from Cyprus’s bailout may trigger a financial crisis in Ukraine and stem capital inflows into the former Soviet republic, Capital Economics Ltd. said.

Ukraine relies on Cyprus for about a third of its foreign direct investment because companies channel cash through the island for tax purposes, according to Liza Ermolenko, a London-based emerging-markets economist. Introducing capital controls risks disrupting those inflows, which may curb business activity, she said today in an e-mailed note.

“Ukraine is extremely exposed if the Cypriot bailout triggers a fresh spike in financial-market tensions,” Ermolenko said. “Wider vulnerabilities mean the Cypriot crisis may still be enough to tip Ukraine into a financial crisis of its own.”

Ukraine slipped into a recession in the fourth quarter as weakening demand for commodity exports such as steel caused a decline in industrial output. The current-account gap widened to a record 8.4 percent of gross domestic product in 2013, while FDI rose 8.7 percent to $7.8 billion.

Ukraine “is on the brink of a balance-of-payments crisis” and GDP will probably contract 0.5 percent this year, Ermolenko said. Its total external financing requirement over the next 12 months is about 40 percent of GDP, she wrote.