18 January 2017

The West has only made things worse in Ukraine

By Myhaylo Kukhar and Peter Byrne

A democratic revolution triumphed two and a half years ago in Ukraine. And the West rushed to congratulate the leaders of the pro-democratic parties who emerged victorious, including President Petro Poroshenko.

Indeed, a record number of Western advisers were sent to Kiev in the wake of the election. Far more than had visited during the first 25 years of Ukraine’s independence. American officials went out of their way to ensure Ukraine received loans from the IMF and helped restructure the country’s foreign debt obligations to avoid almost certain default.

The US Treasury Department helped restructure $15 billion of Ukraine’s external debt, achieving a 20 per cent debt reduction and allowing Ukraine to avoid paying any of the previously scheduled $8.5 billion.

Two and a half years later, the outgoing American administration is finding it difficult to hide its frustration and disappointment at the current state of affairs. The verdict is unanimous: anticipated reforms have not been implemented, and the so-called battle against corruption has not been successful.

So why have the reforms been unsuccessful. Is it because they were too few and came too late? Or is it because they were the wrong ones?

Some might be amused to hear that “suggestions from Washington” and “advice from US officials” were pretty much interpreted as marching orders in Kyiv. Advice from Ukraine’s most strategic partner was generally understood to be an order: implementation could be delayed, but never ignored.

That the Ukrainian government blindly followed “advice” without setting out its own economic ideology wasn’t, to be blunt, a smart move. And so the country’s most important benefactor advised the post-revolution leaders to strengthen the role of government and raise taxes.

But their recommendations on fighting corruption were, perhaps, even more alarming, contradicting the tenets of a free market economy, which should insist on minimal intervention by government.

Milton Friedman, the father of the Chicago economic school, held that fighting corruption with coercion does not work. Friedman believed corruption in the state sector is best eliminated by introducing new economic models, government procedures, or removing government as an actor in settling conflicts of interest.

This is the advice Ukraine’s well-wishers should have given. America, after all, has relied heavily on Friedman’s recipe of economic methods for decades, employing systems of bonuses and options for top managers to rule out or negate the desire for bribes from counter agents. This is not how officials behave in China and Venezuela, where repressive measures, elevated levels of punishment, including the death penalty, are employed to fight corruption.

Unfortunately, these well-meaning, Left-leaning American officials failed to give sound conservative advice on how to root out corruption in Ukraine. Instead, they helped create the National Anti-Corruption Bureau, as well as the Anti-Corruption Bureau of the Prosecutor General’s Office of Ukraine.

The US Federal Bureau of Investigation, meanwhile, cooperated with Ukraine’s State Security Service, providing expensive technical surveillance equipment to detect illicit activities in the public sector. As a result, Ukrainian bureaucrats today are monitored like never before.

None of this has been particularly helpful. US taxpayers’ dollars were also spent on increasing the salaries of Ukrainian police and prosecutors, who were tasked with finding and punishing corrupt state officials and businessmen.

Meanwhile, the monthly salary of Ukrainian civil servants is less than $100, with government ministers earning about $800. Indeed, public discussion in 2106 focused on whether to raise the salaries of the country’s politicians from $150 to $300.

So why, over the past three years, didn’t any of those hundreds of consultants from the IMF and World Bank consider restructuring the Ukrainian administration, starting by radically cutting back on workers and raising the salaries of those who remained?

Instead, Ukraine was managed by Leftist hypocrisy: the country was swamped with microphones and detectives, in the assumption that this would stop the bureaucrats with their hundred-dollar salaries who oversaw billion dollar transactions in the state oil and gas sector, from taking bribes.

Another example of American ideological confusion was during the attempt to enact liberal tax reforms — to reduce tax rates as a share of GDP in Ukraine from 47 per cent to 35 per cent, a move backed by hundreds of Ukrainian non-governmental organisations, think tanks and business associations. The calculation was that increasing state budget revenues would be best accomplished by bringing a large chunk of the economy out of the shadows. (The World Bank estimates that Ukraine’s shadow economy accounts for up to 60 per cent of the nation’s GDP.)

Guess who became the key player opposing the tax reform? None other than the American-born Finance Minister, Natalie Jaresko, who said that Ukrainian business is indifferent to tax rates and called supporters of the plan to lower taxes “populists”. Her remarks elicited ironic chuckles from conservative economists, but were cheered on by the Financial Times and the Economist.

So millions of Ukrainian entrepreneurs, who had struggled for a quarter of a century under successive corrupt, authoritarian regimes, watched with horror on 31 December 2015, as the nation’s legislature buried radical tax reform plans in favour of the plan to raise taxes, “which US officials supported”, according to the then Finance Minister. So much for bringing Ukraine’s economy out of the shadows.

The fecklessness of American advisers on the privatising of state-owned enterprises has been equally conspicuous. They haven’t even attempted to convince the nation’s politicians to lift the moratorium on the sale of agricultural land, arguably Ukraine’s biggest asset.

What was the position of American economic advisers, the IMF and the political establishment on such a key issue? Well, socialists don’t like privatisation. So how many of the vast number of corrupt state-owned enterprises were privatised over the past three years? Not many – if any. Shouldn’t we be asking why so few?

Here we are, three years after the revolution, pondering whom to blame for the absence of economic progress. How much of the blame rests on lazy Ukrainians, and how much on our American friends?

The moral of this story is that it’s surely better to support healthy liberalism and conservative economic policies, especially in countries which have turned their backs to socialism.

If this ideology trumps European socialist sentiment in 2017, the magic rule of the unseen hand could certainly produce results. Give Ukraine a fishing rod and let the market—not the government—catch the fish.

Peter Byrne is former Director of the Belarusian Soros Foundation and Mykhaylo Kukhar is chief economist for the Independent Macroeconomic Forecast Group of Ukraine