Ukraine May Be Next To Default

KIEV, Ukraine -- In December, Ecuador became the first country to buckle under the current financial crisis and default on its loans. Now with its outlook deteriorating rapidly, there's a good chance that Ukraine will become the second.

Ukraine took three significant blows within the space of the week. The International Monetary Fund said on Feb. 7 it was delaying the second $1.9 billion tranche of a $16.4 billion loan, which led to Thursday's resignation of Ukraine's finance minister Viktor Pynzenyk.

Pynzenyk said he was stepping down because of the government's refusal to cut its budget deficit according to the terms of the loan left him in an untenable position.

On top of that, ratings agency Fitch cut the country's long-term foreign and local currency credit rating to below investment grade -- to "B" from "B+" with a negative outlook -- meaning that a further downgrade is likely.

Together this spells big new troubles for Ukraine, according to Paul Biszko senior emerging market strategist at RBC Capital in Toronto. "Debts particularly on the private sector side and extreme liquidity stress could push Ukraine into default," Biszko told Forbes. "The odds are rising."

Ukraine had pledged to cut its budget deficit by $4.9%, to $10.0 billion -- 1.1% of gross domestic product -- but infighting between arch-rivals Prime Minister Yulia Timoshenko and President Viktor Yushchenko has meant that it has not followed through so far.

With elections coming up next year, and an economy suffering as a result of a plummeting currency and falling commodity prices, it is very unlikely to do so in the future.

Timoshenko has been appealing to Russia and the Group of Seven nations to step in with support with a $5.0 billion loan, but RBC's Biszko says there is "little chance of bilateral cash" coming through.

According to Tom Fallon, head of emerging markets at fund manager La Francaise des Placements, Ukraine may be able to struggle through the current year, because its external debt that must be repaid this year represent less than a project 10.0% of fiscal revenues.

Ukraine's final hope of a rescue may lie with the European Central Bank. A major exporter of steel to the rest of Europe, a transit route for Russian gas, and with many local banks belonging to major European ones such as Unicredit, ING and Raiffeisen, a default by Ukraine is a risk the central bank may be unwilling to take.

Defaulting on loans can be devastating to an economy: Argentina's default in 2001 wiped out a quarter of that year's gross domestic product, and has taken a long and painful restructuring process to get it back on track.

Source: Forbes