Ukraine is implementing IMF structural benchmarks and returning to useful budgeting practices

Ukraine is implementing IMF structural benchmarks and returning to useful budgeting practices

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21 June 2023
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At the end of May, the government submitted to the Parliament the draft law proposing changes to the Budget Code of Ukraine (No. 9346), which was supported by the Budget Committee and is expected to be voted on by Rada in the near future. Why is this draft law progressing through Parliament so quickly, and why is it important?

First of all, the draft law was submitted to Parliament almost on the last possible day. The submission of the draft law implements two structural benchmarks (SB) of the IMF Program that had to be completed by the end of May:

  • SB 2: submitting to the Verkhovna Rada of Ukraine a draft law on renewal and strengthening of Article 52 of the Budget Code limiting amendments to the budget law (paragraph 21 of the Memorandum of Economic and Financial Policies, MEFP).
  • SB 7: submitting a draft law that will restore articles of the Budget Code establishing limits on the issuance of state guarantees with clear criteria for their application (including for priority sectors) (paragraph 24 of the MEFP).

As stated in the appendix to the Memorandum, SB 2 is necessary to restore fiscal stability and predictability of budget policy, while SB 7 aims to ensure more effective management of fiscal risks.

What do the changes to the Budget Code entail?

The proposed changes aim to restore the provision of Article 52 of the Budget Code of Ukraine (BCU), which defines the procedure for amending the law on the State Budget of Ukraine. After the adoption of the draft law, the Budget Code will include a provision for mandatory expertise by the Ministry of Finance for all draft laws that imply amendments to the state budget and require financing not only in the current year but also in the medium-term period. Voting on such draft laws will only be possible with a positive conclusion from the Ministry of Finance. This will be an important tool for counteracting excessive populism and ungrounded decisions by MPs. It is needed because the Ministry of Finance is responsible for budget implementation even if the budget includes some suggestions of MPs.

According to current regulations, cost estimate should be an integral part of the explanatory note for all the draft laws. In practice, however, it is often absent or very formal, undermining budget predictability and fiscal stability.

Importantly, the government plans to restore medium-term budget planning although martial law is still in place. Drafting and approval of the three-year Budget Declaration will enhance budget policy predictability and fiscal stability. It will also serve as an essential planning tool for reconstruction efforts. However, drafting a comprehensive Declaration poses significant challenges due to high uncertainty primarily caused by the war. Although the IMF has improved the GDP growth forecast, it has also widened the range of possible values, changing the estimate for 2023 from -3% ± 1% to +1% ± 3%. Moreover, the financing outlined in the IMF Program is rather soft commitments from other countries than allocated funds. Consequently, the funding for recovery and the corresponding economic and budgetary indicators may vary. That is why the Budget Declaration is planned to be prepared and published in 2024. On the other hand, SB 5, which should be implemented by the end of September 2023, entails the preparation of “budget declaration projections of key revenue and expenditure categories for 2025-26, as well as a fiscal risks statement, including details on energy sector and critical infrastructure SOEs”  (paragraph 23 of the MEFP). This will be a challenging but useful exercise. Like in previous years, these documents will most likely be part of the explanatory materials for the draft State Budget for 2024.   

The draft law also suggests to renew preparation and approval of the medium-term Public Debt Management Strategy. This Strategy was adopted in 2021 for the period of 2021-2024 but became irrelevant due to the full-scale war.

According to the IMF Program, the government has to adopt and publish this Strategy by the end of September 2023 (SB 4), with a specific date – September 25, 2023 – set by the draft law. According to the Memorandum, the Strategy will include further development of the domestic debt market and attracting non-residents to it, as well as diversifying the pool of investors. The Strategy is also important in light of the anticipated debt restructuring in 2024, as outlined in the IMF Program. Agreements with creditors regarding debt restructuring need to be reached no later than August 2024, when the deferral agreement for interest and principal payments on Eurobonds reached in 2022 expires. The IMF will likely support Ukraine in these negotiations. Currently, no information is available on details of the debt restructuring. It may involve exchanging existing Eurobonds for “green” bonds, as the saved for some time money could be directed towards green recovery according to the “Build back better” principle.

Amendments to the BCU regarding the implementation of SB 7 are crucial for financing Ukraine’s reconstruction. The draft law stipulates that in 2023-2028, the state guarantee ceiling of 3% of the planned revenues of the general budget fund does not apply to state guarantees provided for international agreements of Ukraine. According to the World Bank’s latest estimate, Ukraine needs at least $411 billion for recovery. Funding will come from various sources and will be allocated to different participants of reconstruction. Some funds will probably be channeled directly from international financial organizations and other countries to local governments and public or private companies under government guarantees. Lifting this restriction on guarantees is essential to enable this financing.

Generally, the draft law on amendments to the BCU is important and beneficial for macro-financial stability. Its provisions contribute to improving budget predictability and enhancing fiscal resilience. It implies reinstallment of best practices in budget policy. However, the quality preparation of medium-term budget planning documents requires the leadership position of the Ministry of Finance and alignment of the government’s positions. These documents should also be based on the mid-term economic development strategy currently being drafted by the government. Hopefully, the Strategy will provide clear target indicators rather than traditional declarative goals.

This article was prepared with the financial support of the European Union. Its content is the sole responsibility of Oleksandra Betlii and does not necessarily reflect the views of the European Union.

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