How Russia Is Pushing Ukraine Into the West's Arms

Ukrainian recruits receiving instructions in Kiev's Independence Square Photograph by Emilio Morenatti/AP Photo

Ukraine’s beleaguered economy, already suffering from years of contraction, has been further set back by events in Crimea, where a standoff between Ukrainian and Russian troops continued on Tuesday. Russian President Vladimir Putin called off the emergency military training exercises he ordered last week on Ukraine’s eastern borders, signaling an unwillingness to escalate the crisis that has already battered Russian markets.

Putin spoke for the first time on Tuesday since Russian soldiers poured into the peninsula, saying he saw no immediate need to attack Ukraine but reserved the right to protect Russian-speakers across the border. For its part, the international community continued to ponder its options as U.S. Secretary of State John Kerry arrived in Kiev on Tuesday to offer the fledgling interim Ukrainian government $1 billion in loan guarantees and pledges of technical assistance. The U.S. continued to mull sanctions against top Russian officials.

Despite the continued presence of Russian troops in Crimea and pro-Russian unrest in Ukraine’s eastern regions, Putin’s machinations may amount to a Pyrrhic victory. As Putin alienates the international community, it is the new government in Kiev—which the Russian president labels illegitimate—that stands to gain.

“In a perverse way, the more aggressive the posturing by Russia, the more likely it is that the West will stump up the cash needed to prevent Ukraine’s economy from spiraling into a crisis,” says Neil Shearing, Capital Economics’ chief emerging-markets economist. “Essentially, if the geopolitical tug of war becomes more polarized—and Putin becomes more bellicose—the more likely it is that the West will answer by coming to the rescue of Ukraine.”

In addition to the $1 billion in loan guarantees, the U.S. announced a bilateral assistance package that will ease the burden of economic reform on vulnerable Ukrainians, help with upcoming elections, combat corruption, and recover stolen assets, as well as help “withstanding politically motivated trade actions by Russia,” according to a statement issued on Tuesday by Treasury Secretary Jacob J. Lew.

“The good news is that key figures in the government have acknowledged the scale of the challenge and the necessary steps to put the economy on a more sustainable footing,” Shearing says. “The immediate priority is to secure some form of short-term financing—perhaps in the order of $2-3 billion to avert default and a balance of payments crisis.”

Ukraine’s economy grew zero percent in 2013, according to the World Bank. The country is running a current account deficit of around 9 percent and the hryvnia has fallen by over 10 percent since the beginning of the year. Exports in real terms are now below their level a decade ago and investment has collapsed: The only sector that performed moderately well last year was agriculture, which accounts for a mere 8 percent of gross domestic product. The country’s foreign reserves were $17.8 billion at the end of January.

Ukraine needs all the help it can get. Corruption and inefficient spending have plagued the government for decades. Ukraine ranked 144 on Transparency International’s Corruption Perceptions Index in 2013—making it the most corrupt country in Europe.

On Feb. 24, the interim government in Kiev requested $35 billion in foreign assistance for the next two years to stay afloat, and an International Monetary Fund delegation is visiting Kiev this week. Ukraine has negotiated with the IMF before, but the deals soured because of the politically unpopular conditions the IMF wanted before it would disburse a loan to Ukraine. The most difficult restructuring the IMF has demanded has been a hike on household gas prices. Whether the interim government has the strength for that kind of reform remains to be seen.

“The IMF deal will be good for the economy long-term, as will be the EU influence. The market opportunities in western Ukraine will change radically and positively over the next decade,” Chris Weafer, a senior partner at Macro Advisory in Moscow, wrote in a note on Sunday. “Whatever the outcome of events now unfolding in Crimea and in some eastern districts, and notwithstanding the medium term concerns over political leadership and the economy, one factor is very clear; western Ukraine has now moved into the sphere of the EU.”

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