External shocks and performance responses during systemic transition : the case of Ukraine

Ukraine encountered many economic problems in its first years of independence. Most serious among external shocks were the collapse of trade with the former Soviet Union and the sharp price increases for energy imports. External shocks resulted in an income loss in the current accounts equivalent to about 14 percent of the gross domestic product (GDP) a year in 1992 and 1993. Ukraine did not adopt an appropriate strategy for dealing with the impact of these shocks. Its main policy response has been to continue borrowing, increase arrears, postpone adjustment, and restore administrative interventions. Not only has this policy exacerbated the economic crisis, it has led to massive capital flight and rapid expansion of the underground economy. With the limited information available, the authors try to identify the major sources of external shocks and to estimate their impact on the current account. They also evaluate Ukraine's policy response. Based on examination of the experience of other countries in addressing adverse shocks, the authors recommend the following policies: (a) full commitment to systemic reform and macroeconomic stabilization; (b) privatization, price liberalization, development of competitive market system, and reform of the legal system. For the particular situation of the Ukraine, they emphasize the importance of: (a) growth-oriented structural adjustment that reflects Ukraine's comparative advantages, including the development of nontraditional industries with high valued-added and low energy intensity; (b) greater economic (especially energy) efficiency; (c) integration into world systems of trade and finance; (d) prudent borrowing and debt management strategies, as well as policies to encourage private foreign direct investment and to make more efficient use of foreign debt.