- The Ukrainian economy shrank by a third in the past year
- Despite challenges, economists see GDP stabilizing in 2023
- Heavy industries, such as steel, are hit hardest by energy cuts
- Other sectors have adapted, many using generators
KIEV, Feb 27 (Reuters) – When Russia invaded Ukraine a year ago, the shelves of the Novus supermarket chain in Kiev emptied rapidly as its supply chains – domestic and international – collapsed. Fresh products became scarce and panic buying spread.
Oleksiy Panasenko, deputy general manager for operations at the popular outlet, recalls how business faltered before Novus, like many other big retail chains, managed to adapt.
“On the second day (of the war) there was already fighting on the outskirts of Kiev,” he told Reuters. “In February and March, our stores became more than a place to buy groceries: they were a place of encounter, of communication; so-called islands of stability.”
And when Ukrainian troops forced the Russian army to withdraw from the capital in the spring, the retail sector and the economy as a whole recovered.
Data from the European Business Association of Ukraine – which brings together over 1,000 foreign and Ukrainian companies – showed that by the end of May 47% of its members had fully recovered operations and another 50% were operating with some restrictions.
But then rocket attacks began in October, delivering a hammer blow to Ukraine. Russia has attacked power grids and substations across the country, causing outages during the freezing winter and hitting heavy industry hard.
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The economy shrank by a third last year, the sharpest contraction since Ukraine’s independence from the Soviet Union in 1991. Before the Russian invasion, annual economic output had surpassed $200 billion.
As the war enters its second year with no sign of slowing down, the challenges are formidable. Reuters polled seven economists whose forecasts for 2023 ranged from a sizeable – albeit far less dramatic – 5% contraction in gross domestic product (GDP) to a modest expansion.
Access to reliable energy will be a major obstacle. While many companies are finding ways to cope with the war, those that can’t run on generators alone will struggle this year, according to the economists, two government officials and executives from two private companies.
ArcelorMittal Kryvyi Rih, Ukraine’s largest steel mill, said its production is currently around 25% of pre-war levels due to power outages.
“We see small and medium-sized businesses adapting to power shortages fairly quickly by buying generators, batteries and other equipment while damage to infrastructure remains moderate,” said Olena Bilan, chief economist at investment firm Dragon Capital, whose forecast is the worst was among the surveyed economists.
“If this situation persists, the fall in GDP in 2023 will not be as severe as we expect. However, our forecast also envisages an end to the hot phase of the war at the end of the third quarter of 2023,” said Bilan. She didn’t explain why Dragon expects the war to cool down.
The Central Bank of Ukraine forecasts GDP growth of 0.3% this year, while the Ministry of Economy forecasts growth of 3.2%.
HUGE TOLL
Last summer, Ukrainian officials had already begun to sound more confident about the country’s economy, particularly following a UN-brokered grain export deal.
The deal saved Ukraine’s agriculture, which before the war accounted for about 12% of GDP and about 40% of total exports.
By mid-February, Ukraine’s grain exports for the 2022-2023 season – which runs from July to June – had fallen 29.3% yoy to 29.7 million tons.
A massive increase in military spending, including army wages, has also given a boost to the economy, said Vitaly Vavrishchuk, head of research at the ICU investment house. According to the National Security Council, Ukraine spent 1.5 trillion hryvnia ($40.6 billion) on its defense sector in 2022 – about a third of its economic output.
That was about five times the planned pre-war defense budget.
Tens of billions of dollars in foreign aid have poured in to both plug the budget deficit and arm Ukraine’s armed forces.
But despite the positive aspects, Ukraine is far behind where it was before the war began. And the economic burden is staggering.
The invasion destroyed schools, hospitals, ports, roads and bridges. The Kyiv School of Economics estimated the damage to infrastructure from the war at $138 billion in December.
Poverty rates have skyrocketed and the budget deficit is expected to hit $38 billion in 2023 after a slump in tax revenues. The government relies on Western aid to cover it – most of it from the United States and the European Union.
“The Ukrainian government has taken measures that helped bring the monthly deficit down to $3-3.5 billion in 2023, which is still a huge number,” Finance Minister Serhiy Marchenko said, noting that infrastructure investments are also needed to fuel a recovery.
President Volodymyr Zelenskyy’s government has urged donors to start planning the daunting task of reconstruction this year, although it recognizes that large-scale construction will be difficult until some peace returns.
Between 40% and 60% of the energy sector has been damaged, according to Marchenko, who said at a recent roundtable in February that he could often hear attack drones buzzing over his house or his ministry’s building.
Business events are often held in underground bunkers for security reasons. Power outages are regular. Panasenko of Novus said the company lost about 30% of store hours in Kiev in December and about 20% in January.
The steel sector, an important pillar of the economy, is one of the hardest hit. Before the war, Ukraine was the 14th largest steel producer in the world.
Two leading steel producers, Azovstal and MMK Illicha in Mariupol, have been destroyed and are officially bankrupt.
Those who remain are struggling with power outages.
“Power outages for companies like us are a big problem,” said Mauro Longobardo, CEO of ArcelorMittal Kryvyi Rih. The company recently started importing electricity, but the cost has been high. He did not give any further details.
Ukraine’s electricity system is connected to the European grid, where prices are higher, and it has imported energy from neighboring Slovakia.
Energy deficits are not Arcelor’s only challenge.
Its camp in Kryviy Rih, about 400 km (250 miles) southeast of Kiev, was hit by three Russian missiles in early December, killing one worker, Longobardo said.
Arcelor’s mining facility in a recently liberated area was riddled with land mines and most of the associated infrastructure was damaged.
Logistics is another issue for the company, which used to export up to 80% of its production. Russia blocked Ukraine’s Black Sea ports and Longobardo had to work on new export routes through Poland.
Despite the challenges, Arcelor, Ukraine’s largest foreign investor, wants to stay.
The largest employer in Kryviy Rih, Zelenskiy’s birthplace, has kept its 26,000 workers on the payroll despite a drop in production. Longobardo said Arcelor will invest $130 million this year. Such plans are rare now.
The prospects for some other sectors are more positive.
Data from the Economy Ministry showed that Ukraine imported 669,400 generators last year, with over 300,000 in December alone. Panasenko said 52 of Novus’ 82 stores are already equipped with generators.
ICU’s Vavrishchuk saw the economy continue to adjust and sectors with high government funding would benefit most.
However, apparent security risks deterred private investment, which is vital to a robust recovery.
Ukraine has had a mixed record of attracting foreign private investment. In 2021, Transparency International’s Corruption Perceptions Index ranked it the second-lowest country in Europe, behind only Russia.
Vavrishchuk said the country must enforce the rule of law, ensure transparency and fair competition.
“Participation in post-war reconstruction could be attractive for investors,” he said. “But we still have to deal with all the issues (transparency and corruption) that we didn’t have time for before the war started.”
Reporting by Olena Harmash; Edited by Mike Collett-White and Daniel Flynn
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