Magazine

Ukraine: What Crisis?


By Jason Bush Stroll around downtown Kiev these days, and it's hard to miss the signs of growing prosperity. The Ukrainian capital's golden- domed cathedrals share the skyline with towering cranes and snazzy apartment complexes. Giant billboards plug the latest Samsung MP3 players and Nokia (NOK) phones. Diners spill onto the street from posh new eateries on Independence Square, where three years ago hundreds of thousands of Ukrainians staged the so-called Orange Revolution that propelled President Viktor Yushchenko to power. To look at the scene, you'd never know that Yushchenko and his bitter rival, Prime Minister Viktor Yanukovych, remain locked in a fierce power struggle that is unlikely to be resolved even after parliamentary elections on Sept. 30.

The lesson: Polit-ical instability and economic crisis don't always go hand in hand in the former Soviet Union. Despite the standoff among Ukraine's politicians, the economy is booming and foreign investment continues to pour in. Gross domestic product powered ahead by an impressive 8% during the first half of 2007, and economists expect the strength to continue, boosted by a surprisingly diverse economy. Metals, mainly steel, account for 40% of exports, but most of the growth is coming from manufacturing and services. Production of heavy equipment rose 22% in 2006. And Ukraine's software houses saw their exports jump by 50% last year, to some $250 million.

Investors see promise in the growth. The Kiev stock exchange has more than doubled this year and now boasts a market capitalization of $76 billion—a sixfold increase since late 2004. And a real estate boom has pushed up housing prices by 60% in 12 months. "We joke that as long as all these disputes are going on, [politicians] don't have time to interfere in business," says Taras Kutovyy, chief financial officer at XXI Century Invest-ments, a leading developer that in May raised $175 million in euro bonds to fi- nance new apart-ments, hotels, and hypermarkets.

The boom is being fueled by Ukraine's 46 million consumers, who are opening their wallets for everything from houses to cars to big-screen TVs. Consumption has been growing by double digits since 2003, as roughly 70% of Ukrainians can now afford new washing machines, furniture, and other big-ticket items, up from 40% four years ago, according to market researcher GfK Group. "It's clear that there is a growing Ukrainian middle class," says Tetiana Sytnik, GfK's senior researcher in Kiev. That's attracting increasing numbers of multinationals seeking to sell to them. In June, PepsiCo Inc. (PEP) plunked down $542 million for Ukrainian fruit juice maker Sandora, which has 50% of the local juice market. Two months earlier, French supermarket chain Auchan entered the country via a joint venture with local retailer Furshet, with a view to constructing 10 hypermarkets over the next two years.

WIDESPREAD BRIBES

Ukraine's new wealth is on display at Arena City, a six-story shopping and enter- tainment complex that opened in 2005. The 60 boutiques stock expensive French and Italian clothing, furniture, and jewelry, and the mall features dealers for Porsche, Bentley, and Mercedes. "People are earning more money, and demand for exclusive cars and real estate is rising. We can see it everywhere," says Sergei Korolyov, sales manager at the Kiev showroom for Porsche, which is on target to sell 350 cars this year, at an average price of $140,000, up from 100 in 2005. And it isn't just the premium nameplates that are flying out of showrooms: Sales of all new cars jumped 40% last year—the highest rate of increase in Europe—to 370,000 as Ukrainians traded in cheap Russian imports for pricier Western models. The market is tipped to grow by an additional 25% this year.

An explosion in consumer credit is behind the buying binge. Shiny new bank branches are sprouting across the city. And in downtown Kiev, rows of portrait artists and old women hawking souvenirs are flanked by young people in boxy costumes shaped like houses, promoting a mortgage bank. Last year, the volume of retail loans surged by 137%, to $15.5 billion. Previously almost nonexistent, Ukraine's banking sector, the fastest-growing in Europe, hasn't gone unnoticed farther west. Over the past two years, foreigners have bought four of Ukraine's top five banks. In the most recent deal, Italy's UniCredit Bank in July announced plans to acquire Ukrsotsbank, the second-largest Ukrainian financial institution, for $2.2 billion.

Of course, not everyone is benefiting from the economic boom. "We thought that things would get better, and now we've lost faith," says Nataliya Kolesnikova, a 32-year-old artist. She and her husband, a photographer, enthusiastically joined the protests during the Orange Revolution. But now they complain that corrupt tycoons and officials remain at liberty while ordinary folk struggle to get by and are forced to pay the endless bribes demanded by policemen, doctors, and even teachers.

Ukraine still has a lot of catching up to do with more advanced economies in the region. It remains one of Europe's poorest countries, with an average annual income of just $3,000 per head—half Russia's level and only 8% of Britain's. And despite average annual growth rates of more than 7% stretching back to 2000, national output still hasn't recovered from the chaotic economic transition of the 1990s and remains below the levels achieved in the Soviet era. "If you compare the situation today to 10 years ago, the progress is absolutely obvious," says Finance Minister Mykola Azarov. "But it isn't fast enough to satisfy people."

WTO ENTRY

There's also a risk that the political standoff in Kiev could start to take a toll on growth if it delays passage of key legislation. "The political crisis has derailed structural economic reforms: pension reform, tax reform, judicial reform—which Ukraine badly needs as a post-Soviet state," Azarov says. Still, in some areas Ukraine's government is plowing ahead. In early July, Parliament approved laws that lower export tariffs on metals and toughen copyright protection. Those measures, plus others enacted over the past year or so, should help pave the way for Ukraine's entry into the World Trade Organization, now expected by next year.

Indeed, for all their feuding, Ukraine's leading politicians seem to share a sense of purpose when it comes to improving the environment for business. That's not surprising since many are closely allied with Big Business interests. Although both the government and private companies continue to be dominated by wealthy oligarchs, the adoption of market economics has also fueled rapid development of new players in telecommunications, real estate, and software. Corporate managers, meanwhile, are too busy making money to lose sleep over the long-term need for tax or pension reform. Says Porsche salesman Korolyov: "I think people have now started to understand that politics is politics, and business is business."

Bush is chief of BusinessWeek's Moscow bureau


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