A win­ning strat­egy

Financial Mirror (Cyprus) - - FRONT PAGE -

Sanc­tions, though nec­es­sary, are harm­ful not only to Rus­sia but also to Europe’s econ­omy. By con­trast, en­abling the Ukrainian econ­omy to flour­ish would ben­e­fit both Ukraine and Europe.

Even more im­por­tant, sanc­tions by them­selves re­in­force Putin’s nar­ra­tive that Rus­sia is the vic­tim of a Western or An­glo-Saxon plot to de­prive it of its right­ful place as a great power equal to the United States. All of Rus­sia’s eco­nomic and po­lit­i­cal dif­fi­cul­ties, the Krem­lin’s pro­pa­ganda ma­chine ar­gues, have re­sulted from Western hos­til­ity.

The only way to counter this nar­ra­tive is to com­bine sanc­tions with ef­fec­tive sup­port for Ukraine. If Ukraine pros­pers while Rus­sia declines, no amount of pro­pa­ganda will be able to con­ceal that Putin’s poli­cies are to blame.

Un­for­tu­nately, Europe’s lead­ers have cho­sen a dif­fer­ent course. They treat Ukraine as another Greece: a coun­try in fi­nan­cial dif­fi­cul­ties – and one that is not even a Euro­pean Union mem­ber state.

This is a mis­take. Ukraine is un­der­go­ing a rev­o­lu­tion­ary trans­for­ma­tion, and the cur­rent gov­ern­ment is prob­a­bly the one best able to de­liver rad­i­cal change.

There are in­deed some sig­nif­i­cant sim­i­lar­i­ties be­tween the “old Ukraine” and Greece: both suf­fer from a cor­rupt bu­reau­cracy and an econ­omy dom­i­nated by oli­garchs. But the new Ukraine is de­ter­mined to be dif­fer­ent. By keep­ing Ukraine on a short fi­nan­cial leash, Europe is jeop­ar­dis­ing the coun­try’s progress.

In a sense, Europe’s fail­ure to recog­nise the birth of a new Ukraine is not sur­pris­ing. Spon­ta­neous up­ris­ings oc­cur fre­quently; the Arab Spring, for ex­am­ple, spread like a wave across North Africa and the Mid­dle East.

But most re­volts do not en­dure; their energy is ex­hausted quickly – as with Ukraine’s Or­ange Revo­lu­tion a decade ago. To­day’s Ukraine is one of the rare cases in which protest is trans­formed into a con­struc­tive, na­tion-build­ing pro­ject. Although I par­tic­i­pated in that trans­for­ma­tion process, I con­fess that re­silience.

Putin has made the same mis­take, but on a much larger scale. He has been so suc­cess­ful in ma­nip­u­lat­ing public opin­ion that he was un­will­ing to be­lieve that peo­ple could act spon­ta­neously. That has been his Achilles’ heel.

Twice he or­dered for­mer Ukrainian pres­i­dent Vik­tor Yanukovych to use force against the peo­ple protest­ing in the Maidan, Ukraine’s In­de­pen­dence Square. But, in­stead of flee­ing the vi­o­lence, peo­ple rushed to Maidan, will­ing to sac­ri­fice their lives for their coun­try. The sec­ond time, in March 2014, when the protesters faced live am­mu­ni­tion, they turned on the po­lice, and it was the po­lice who ran away. Such an event can be­come a na­tion-found­ing myth.

Putin knows that he is re­spon­si­ble for turn­ing Ukraine from a pli­able ally into an im­pla­ca­ble op­po­nent, and he has made it a top pri­or­ity to desta­bilise the coun­try ever since. In­deed, he has made con­sid­er­able – though purely tem­po­rary – progress on this front. Given that Putin also rec­og­nizes that his regime may not sur­vive two or three more years with oil sub­stan­tially be­low $100 a bar­rel, his sense of ur­gency is un­der­stand­able.

His progress – mea­sur­able by com­par­ing the Minsk II ceasefire agree­ment with Minsk I – can be at­trib­uted partly to his skills as a tac­ti­cian. More im­por­tant, whereas he is will­ing to go to war, Ukraine’s al­lies have made it clear that they are in­ca­pable of re­spond­ing quickly and un­will­ing to risk a di­rect mil­i­tary con­fronta­tion with Rus­sia. This has given Putin the first-mover ad­van­tage, be­cause he can switch at will from hy­brid peace to hy­brid war and back again. Ukraine’s al­lies can­not pos­si­bly out­bid Rus­sia by mil­i­tary es­ca­la­tion; but surely they can out­bid Rus­sia on the fi­nan­cial side.

Euro­pean lead­ers, in par­tic­u­lar, have failed to ap­pre­ci­ate Ukraine’s im­por­tance. By de­fend­ing it­self, Ukraine is also de­fend­ing the EU. If Putin suc­ceeds in desta­bil­is­ing Ukraine, he may then ap­ply the same tac­tics to di­vide the EU and win over some of its mem­ber states.

If Ukraine fails, the EU would have to de­fend it­self. The cost, in fi­nan­cial and hu­man terms, would be far greater than the cost of help­ing Ukraine. That is why, rather than dripfeed­ing Ukraine, the EU and its mem­ber states should treat as­sis­tance to Ukraine as a de­fense ex­pen­di­ture. Framed this way, the amounts cur­rently be­ing spent shrink into in­signif­i­cance.

The prob­lem is that the EU and its mem­ber states are too fis­cally con­strained to sup­port Ukraine on the scale needed to en­able it to sur­vive and pros­per. But that con­straint could be re­moved, if the EU’s Macro-Fi­nan­cial As­sis­tance (MFA)

even

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un­der­es­ti­mated

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Ukraine’s fa­cil­ity were re­designed. The MFA al­ready has been used to pro­vide mod­est as­sis­tance to Ukraine; but it needs a new frame­work agree­ment to ful­fill its po­ten­tial.

The MFA is an at­trac­tive fi­nanc­ing in­stru­ment be­cause it re­quires no cash out­lay from the EU bud­get. In­stead, the EU bor­rows the funds from the mar­kets (us­ing its largely un­tapped triple-A credit rat­ing) and lends these funds to non­mem­ber gov­ern­ments. A cash out­lay from the EU bud­get would ma­te­ri­alise only if and when a bor­row­ing coun­try de­faulted. Un­der pre­vail­ing rules, just 9% of the loan amount is charged to the cur­rent bud­get as a non-cash out­lay to en­sure against this risk.

A new frame­work agree­ment would al­low the MFA to be used on a larger scale and in a more flex­i­ble man­ner. At present, the MFA can be used for bud­getary sup­port but not to pro­vide po­lit­i­cal risk in­sur­ance and other in­vest­ment in­cen­tives to the pri­vate sec­tor. More­over, each al­lo­ca­tion must be ap­proved by the Euro­pean Com­mis­sion, the Euro­pean Coun­cil, the Euro­pean Par­lia­ment, and ev­ery mem­ber state. The EU’s con­tri­bu­tion to the In­ter­na­tional Mon­e­tary Fund’s res­cue pack­age in Fe­bru­ary took un­til May to process.

The strat­egy for Ukraine that I pro­posed at the start of the year has run into three road­blocks. First, the debt restruc­tur­ing that was sup­posed to ac­count for $15.3 bil­lion of the $41 bil­lion con­tained in the sec­ond IMF-led res­cue pack­age has made lit­tle progress. Sec­ond, the EU has not even started to con­struct a new MFA frame­work agree­ment. And, third, EU lead­ers have shown no sign that they are will­ing to do “what­ever it takes” to help Ukraine.

Ger­man Chan­cel­lor An­gela Merkel and French Pres­i­dent François Hol­lande are ea­ger to en­sure that the Minsk II agree­ment, which car­ries their sig­na­tures, is suc­cess­ful. The trou­ble is that the agree­ment was ne­go­ti­ated by the Ukrainian side un­der duress, and was left de­lib­er­ately am­bigu­ous by Rus­sia. It calls for ne­go­ti­a­tions be­tween the Ukrainian gov­ern­ment and rep­re­sen­ta­tives of the Don­bas re­gion, with­out spec­i­fy­ing who those rep­re­sen­ta­tives are. The Ukrainian gov­ern­ment wants to ne­go­ti­ate with rep­re­sen­ta­tives elected ac­cord­ing to Ukrainian law; Putin wants Ukraine’s gov­ern­ment to ne­go­ti­ate with the sep­a­ratists, who took power by force.

The Euro­pean author­i­ties are ea­ger to break the stale­mate. By tak­ing a neu­tral po­si­tion on Minsk II’s am­bi­gu­ity and keep­ing Ukraine on a tight leash, Europe’s lead­ers have been un­wit­tingly help­ing Putin achieve his goal: fi­nan­cial and po­lit­i­cal cri­sis across all of Ukraine (as op­posed to ter­ri­to­rial gains in the east). Drip-feed­ing Ukraine has brought its econ­omy to the brink of col­lapse. Pre­car­i­ous fi­nan­cial sta­bil­ity has been achieved at the price of ac­cel­er­ated eco­nomic con­trac­tion. Although po­lit­i­cal and eco­nomic re­forms are still mov­ing ahead, they are in dan­ger of los­ing mo­men­tum.

On a re­cent visit, I found a trou­bling con­trast be­tween ob­jec­tive re­al­ity, which is clearly de­te­ri­o­rat­ing, and the

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