On Oct. 18, National Bank of Ukraine Chairman Volodymyr Stelmakh gave every indication that the Hryvnia would soon be liberalized by giving the national currency more breadth within its current tight corridor. The NBU is likely to appreciate the national currency, a move that would help curb the pinch of high inflationary pressures.
Should Stelmakh’s announcement bear fruit, the average consumer paid in hryvnias would benefit from having slightly better purchasing power, and people receiving state pensions or salaries, like teachers and doctors, would feel pressure on their pocket books ease a bit.
But Ukrainians still receiving envelop salaries in dollars under the table would take a hit, depending on how much the US currency falls. Those paid in euros or other strong foreign currencies, such as the British pound, will not be noticeably affected.
Ukraine’s large financial industrial groups, the country’s largest source of foreign currency thanks to steel, chemical and grain exports, would feel the brunt of currency appreciation. Meanwhile, small and medium-sized businesses would benefit, since they target domestic consumers or import goods.
The official Hr 5.05/US$1 exchange rate could appreciate to 4.90, according to Stelmakh. The national currency has been trading consistently in a band of Hr 5.00-5.06 to the US Dollar, but could loosen up at a more reasonable range of Hr 4.90-5.1, predicted Oleksandr Klymchuk, an analyst at Kyiv-based investment bank Concorde Capital.
Other analysts predicted the Hryvnia could strengthen further, to a rate of Hr 4.5-4.8 to the dollar.
For example, Oleksandr Zholud, of the International Center for Policy Studies think tank, said that should the Hryvnia appreciate to Hr 4.5 to the dollar, exporting companies that make resource-intensive products with low profitability percentages, such as in the machine building sector, would suffer the most.
Domestic consumers, on the other hand, would benefit directly, but only somewhat, as finished goods in Ukraine have too many middlemen and durable goods that are imported only make up a fraction (10 percent) of the Consumer Price Index, Zholud said. Consumers would mostly benefit indirectly, as the cost of transportation, prices on gas and other factors would eventually translate into more affordable prices.
The IMF has for years urged the Ukrainian government to liberalize its regulation of the Hryvnia.
Currency appreciation is one of the few tools at a national bank’s disposal to bite at inflation, which is expected to finish the year at 12.8 percent year-on-year, according to official statistics, and even higher when examining other indicators, such as the Producer Price Index, which is up to 19 percent year-on-year since October 2006.
However, the NBU won’t intervene by buying currency unless it has to, allowing the market to take its course instead.
“There have been several months in the last year where the NBU has not intervened in the [foreign exchange] market at all. These prices are set by normal market mechanisms,” Stelmakh said back in May. In the last four months, the NBU purchased $5 billion on the forex market to keep the Hryvnia at its present level.
Still, Klymchuk believes the Hryvnia is significantly undervalued, especially when looking at the purchasing power parity between Ukraine and other countries.
“Many locally produced goods are [still] unjustifiably cheap because the government heavily regulates prices, and because of state monopolies that should instead be privatized,” Klymchuk said.
Macroeconomic indicators paint a conflicting picture, said Balazs Horvath, an IMF representative in Ukraine. According to Horvath, Ukraine’s current account has deteriorated – which in itself would signal a need for real exchange rate depreciation – whereas very strong capital inflows into the country have supported real appreciation. More foreign money flowing into the country is also increasing the money supply.
“Over time, the capital and current accounts should rebalance. The labor and capital markets should be flexible to achieve smooth resource allocation, which would raise overall efficiency. In addition, the NBU should use all available instruments to help the process, which calls for exchange rate flexibility,” Horvath added.
Oleksandr Shkurpat of Foyil Securities believes the main issue is inflation, largely due to immense pressure from cash inflows into the country.
“Ukrainian companies are taking on foreign debt, FDI continues to pour in and repatriated money is flooding the currency market,” Shkurpat said.
This is creating lots of demand, especially for non-tradable goods, such as housing, which can’t be satisfied overnight by supply, or other things, like infrastructure, roads, even a simple haircut. This, coupled with monetary aggregates and energy import prices (originating in Central Asia), are other factors fueling inflation.
The upside, said Horvath, is that more investment is coming to Ukraine. Investors can diversify, share risk, and there is increased competition, all of which are good for the continued strengthening of the economy. Indeed, the IMF recently readjusted Ukraine’s 2007 GDP forecast to 6.7 percent.
“The NBU cannot stop massive capital inflows. As any other central bank, it can only manage it, aiming to lower vulnerabilities and establish buffers by tightening macro-policies,” Horvath said.
“The private sector’s dis-saving should in part be offset by increased public sector saving by minimizing the fiscal deficit.”
“Expect gradual revaluation. Stelmakh won’t make any moves without conducting a thorough economic forecast,” Shkurpat predicted.
“It’s difficult to say at present what to do [whether to buy Hryvnia or make investments in the Hryvnia]. Timing is important, but expect appreciation in 2008.”
Source: Kyiv Post