Economy and politics

The middle class expansion in Ukraine is among the key drivers of the Ukrainian economy. We covered this issue in October 2007, just before inflation started to dilute real incomes; however, by looking closer at the dynamic processes in the current Ukrainian economy we identified that one of the key inflation drivers is the expansion of the middle class. In this report we introduce an amended approach to middle class identification in Ukraine and suggestions as to which sectors will benefit the most from middle class growth.

The Head of the National Bank of Ukraine (NBU) Council, Petro Poroshenko, announced that the official USD/UAH exchange rate in 2H08 will be at 4.85 UAH/USD. The official rate will not be allowed to leave a +/- 4% corridor, i.e. it must stay within the 4.65 to 5.05 range. The NBU has kept the UAH/USD exchange rate constant since 4M05, at the 5.05 level with an acceptable corridor between 4.95 and 5.25 UAH/USD.We view it as a step towards the floating exchange rate approach.

The Ukrainian currency was pegged to the U.S. dollar for eight years. Now, it seems things are about to change. Significant misbalances within the current account and financial account, as well as shifts in the National Bank’s monetary policy soar the risk of UAH instability in the future. If politics would were sidelined, the hryvnya should stay strong within the next 12 months, with a high chance of slight devaluation to follow. However, the alternative scenario implies more flexibility of the hryvnya in the future, given commodities will continue appreciating, the U.S. dollar falling and the Ukrainian central bank switching to inflation targeting.

Recently PFTS saw a worst ever performance with –10% fall this week while global equity markets performed fairly better. In our view the reason for that was the artificially created lack of liquidity on the local money market as the interbank overnight rates skyrocketed to 40%. The prices at which the stocks are traded at the moment seemed unreasonably cheap to us as we see the recovery starting in May. We recommend using the momentum for acquiring Ukrainian stocks.

Ukraine is in the WTO, at last. Thursday, Ukraine’s parliament approved protocol on Ukraine’s accession to the WTO. This was the final step needed for the country to access the organization, after Ukrainian President Viktor Yushchenko and WTO Director- General Pascal Lamy signed the accession protocol on Feb. 5, 2008 in Geneva. Ukraine has been trying to enter the WTO for 15 years and this final outcome is a strategic gain. We expect gradual improvements in the quality and volume of Ukrainian exports in the forthcoming years.

Indeed, 2007 was a year of challenges for the Ukrainian economy. Not even appreciating energy resources, the global financial crisis and domestic political instability could inhibit the development of the country. And we expect this growth saga to continue in 2008.

As the Ukrainian economy continues to grow at full steam, a new class of Ukrainian - economically active, financially independent and politically prudent - is emerging. We can now confidently speak of the Ukrainian middle class. Although it differs from its classical Western counterpart, the Ukrainian middle class nevertheless includes Ukraine’s most pro-active, educated and innovative people.

Another chapter of Ukraine’s political history is now written: its pre-term parliamentary elections are over. The election itself has not solved all of Ukraine’s power struggles. It has, however, paved the way for consideration of which political directions the country may now take, and of what alternative political structures may evolve in the near future. The orange camp has been more successful than was anticipated, but things are not yet all over for Yanukovich either.

Naturally, the stock market is sensitive to political news. Historically, the Ukrainian pre-election period has seen a decrease in stock market activity due to the frequently uncertain political climate. Then, activity surges once more as soon as the outcome of the elections becomes clear.

Although Ukraine has been the biggest growth economy in Eastern Europe for the Last five years, to many people the country remains a mystery. The second largest country in Europe in terms of territory and with a population close to 47mln, it is commonly associated with Russian culture, the Orange revolution, famous sportsmen and Eurovision singers. Nevertheless, Ukraine currently represents a fast growing economy which is each day becoming more resilient to political uncertainty and high energy prices.