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Bank analysts predict that Ukraine is heading for a historic default on its national debt, in a scenario that could complicate EU-Ukraine relations and have an impact on the recent Russia-Ukraine gas transit deal.
"The market is pricing in a probability of sovereign default of almost 90 percent," Commerzbank analyst Ulrich Leuchtmann told EUobserver on Monday (16 February). "It could happen in the next couple of quarters."
Ukrainian industrial production has plunged 26 percent compared to last year. The hryvna has lost over a third of its value against the US dollar and the International Monetary Fund is hesitating on payments of a rescue loan as Kiev declines to keep down public spending.
The political battle between President Viktor Yushchenko and Prime Minister Yulia Tymoshenko ahead of upcoming presidential elections is making matters worse.
Some experts even fear that Mr Yushchenko will use his influence over the central bank to prevent it from bailing out the Tymoshenko government on debt repayments.
"One party could provoke this kind of sovereign default to reap a political benefit," HSBC bank expert Alexander Morozov said. "In that case, Tymoshenko could not fulfill promises to her electorate in terms of paying wages and pensions and so on."
The biggest national default in history, Argentina, in 2001 plunged ordinary Argentines into deep poverty for several years and saw international creditors snatching up Argentine state-owned assets abroad.
A more likely model for Ukraine would be Russia's financial crisis of 1998, which saw Russia write off billions in foreign debt. The Russian economy bounced back by 2000, however, as investors returned because of the country's long term growth prospects.
If Ukraine defaults, Austrian, French, Swedish, Italian and German banks stand to be the worst losers, with collective exposure of around €30 billion ($40bn) in the country, according to the Bank of International Settlements.
A default could also have implications for Ukraine's gas trade with Russia, hot on the heels of the January gas crunch, which saw Moscow halt the flow of gas to the EU over a bilateral price dispute with Kiev.
"[Russian gas supplier] Gazprom could be a victim," HSBC's Mr Morozov said. "If there is no money, then decisions will have to be made on what kind of debts won't be paid and Russian gas could be the first among these."
The European Commission is monitoring the situation with "concern." But for the time being, there is no talk in the EU of crafting a rescue package from institutions such as the European Bank for Reconstruction and Development, as EU states concentrate on economic tensions at home.
Business as usual?
Negotiations on an EU-Ukraine free-trade agreement and a political "association" pact are continuing as normal, with industry commissioner Gunther Verheugen in Kiev on Monday launching an EU scheme to help Ukrainian small and medium-sized enterprises.
But if the EU does nothing to help even as Ms Tymoshenko courts Russia for a rescue loan, it risks further dampening Ukraine's hopes of a post-Soviet era allegiance with the West.
"This issue puts everyone's attention on the Western world and what it could do to help Ukraine from going bust," Credit Suisse analyst Cristian Maggio said. "But in this wider crisis, everyone is out for themselves."
Provided by EUobserver—For the latest EU related news