Why Is Ukraine’s Economy Such a Mess?

When Ukraine became an independent nation in 1991, it was on more or less the same economic footing as its neighbors. Look what’s happened since:

I did leave off Moldova, which shares a border with Ukraine and is even poorer. But Moldova is a landlocked little country of 3.5 million. Ukraine has 45 million inhabitants, is the second-largest European country by land area (after the European parts of Russia and not counting the Asian parts of Turkey) and by all rights ought to be one of the continent major economic powers.

It isn’t. Instead, Ukraine was deeply in debt and looking for bailouts from West and East when an uprising ousted president Viktor Yanukovych in February, then a Russian invasion of the Crimean peninsula made the country the focus of global political attention. I was curious about the economic roots of this turmoil, so I talked to Chrystia Freeland.

Freeland is a new Liberal Party member of the Canadian Parliament representing downtown Toronto. She also grew up speaking Ukrainian. Her late mother was a child of Ukrainian refugees, born in a displaced-persons camp in Germany right after World War II and raised in Canada, who returned to Ukraine in the early 1990s to help craft the country’s Constitution, among other things. Chrystia Freeland was in Ukraine in those days too, working as a stringer for several Western publications. She went onto a journalism career at the Financial Times, Globe and Mail, and Reuters, and wrote books on Russia’s transition to capitalism and the rise of the global plutocracy. She spent last week in Ukraine, and wrote an essay on the political situation there for last Sunday’s New York Times.

What initially made us think of calling you was that news a week or so ago that the new government in Ukraine was asking a few oligarchs to help out by becoming governors of Eastern provinces. What’s up with that?

I also was really struck by that news. I think the people of Ukraine should have some medium-term concerns about that — one of the reasons that you had this uprising against Yanukovych was because there was too much crony capitalism.

But in the short-term, particularly given the subsequent Russian invasion of Ukraine, it is turning out to be a rather prescient action. What is not fully apparent if you’re outside Ukraine is the extent to which Yanukovych compromised the entire structure of government. State institutions were incredibly compromised, incredibly corrupt.  The result was, following the overthrow of Yanukovych, in parts of the country the government just melted away. What the Eastern Ukrainian oligarchs have been able to do because they are very, very wealthy and have their own strong local organizations and contacts, is rebuild some sort of government presence really fast.

The other consequence of putting them in charge of Eastern Ukraine is it shows the extent to which this image of the country as being divided along etnhic lines, of this being a Yugoslav-style ethnocultural conflict, just isn’t true. As it happens, many of these oligarchs are not ethnically Ukrainian.

Who are these oligarchs? We’re familiar with the Russian variety, what’s the same and what’s different about the Ukrainian ones?

In general they’ve made their money in heavy industry, so that’s quite different from most of the Russian oligarchs. That’s why they’re not quite as rich, because there wasn’t quite as much money to be made. There were a lot of Soviet-era machine-bulding plants in Eastern Ukraine, machine-building and metals. There is also some banking, and media interests.

The East has this old industrial base. What does the Ukrainian economy consist of on the whole? Is it heavily agricultural?

The industrial base is important, particularly in eastern Ukraine. We all know about Ukraine as the breadbasket of Europe, and it is indeed an incredibly fertile country. There’s been a lot of Chinese investment in that part of the Ukrainian economy. There is also a technology outsourcing industry. And then finally, in some parts of Ukraine, tourism has been becoming more important.

Why is the economy such a mess?

Because of very bad, kleptocratic governments. That is 90% of the reason. In terms of the economy, Ukraine only accomplished maybe half of the things that you need to do, when the Soviet Union collapsed and they moved to a market economy. They did do privatization. There are now a lot of private companies, and there is a market. It’s important for us to remember that not so long ago even selling a pair of jeans was illegal.

But what they failed to do was build an effective rule of law and government institutions. Corruption, in the Yanukovych era at least, was absolutely rampant. And some important reforms of state finances haven’t happened. In particular, energy prices are still subsidized. Of course, when you move to free-market prices that’s a huge shock to the society. But Ukraine’s failure to liberalize energy prices is part of the reason that it has this great dependency on Russia.

Having said all of that, and having been in Kyiv* last week, I think there’s a bit of an Italian phenomenon going on, where you actually have a highly educated, very entrepreneurial population, but because you had this incredibly corrupt state, a lot of the Ukrainian economy has gone underground. Walking through the streets of many Ukrainian cities — Kyiv, Lviv in Western Ukraine, Dnipropetrovsk in the East — you feel yourself to be in a much more prosperous society than the official data reflect.

The official data is incredible. Poland on the one side and Russia on the other are both in the low twenty-thousands in GDP per capita, and Ukraine is officially at $7,298.

There is no doubt that Ukraine has fared much, much worse than Poland. That is a testament to how important government decisions are. These countries were not so far apart in 1991 when Ukraine became independent, and the Poles by and large have done the right things, and the Ukrainian government has not.

The sense I get is that pretty much every government since independence has had big issues with corruption, but under Yanukovych it went from being this thing that the government did on the side to the entire reason the government existed. Is that fair?

One of the founders of the Maidan movement is this former investigative journalist named Yegor Sobolev. He said what drove him crazy was you couldn’t even call it corruption anymore. It was like a marauding horde. Corruption stopped being something that poorly paid government officials did on the side and became the main reason for the government’s existence.

Radek Sikorski, the Polish foreign minister who has been playing a very good and important role in Ukraine, said that before the Yanukovych regime fell he went into one meeting with Ukrainian officials and they laughed at him for having a regular watch. He said everyone in that room had a wristwatch worth $30,000. That’s the sign of a really corrupt government.

With this new regime do you see potential for Ukraine moving in the right direction?

I think this government has a better chance than any previous Ukrainian government has had. A lot will depend of course on the presidential elections, and then there will be a need for new parliamentary elections. But so far it’s a group of people who understand what they need to do. They’ve seen Central Europe and the Baltic republics walk that path. It’s pretty clear what needs to be done.

What was quite impressive to me was that the government immediately took some steps last week to be more transparent and less entitled. All the ministries had these huge fleets of cars, and they cut them back to just one car per ministry. When Yatsenyuk, the prime minister, traveled to Brussels last week, he demonstratively flew commercial. These are gestures absolutely, but they symbolize something important.

Having said all of that, economic reform, urgent though it is for Ukraine, falls by the wayside when you’re being invaded, and that is the state of the country right now.

* When Freeland said it, it sounded like “Kayiv,” so I went with this spelling instead of the old-fashioned “Kiev.”