Progress stalls over debt repayment and flight bans

The Ukrainian authorities have agreed a debt-restructuring plan with private creditors. Prime minister Arseniy Yatsenyuk said on Oct. 15 that the private creditors of Ukraine had decided to write off $3 billion and reconstruct another $8.5 billion. According to Mr. Yatsenyuk, the Ukrainian authorities offered the same pattern to Russia: the cancellation of 20 percent of the debt, the extension of payments toward the principal of the loan, and the establishment of the coupon rate at 7.75 percent per annum instead of 5 percent. However, the Russian president’s spokesman, Dmitry Peskov, said on Oct. 15 that the existing debt of $3 billion must be repaid, otherwise it would mean a sovereign default. The Russian authorities will demand the return of the money in the London Court of International Arbitration.

IMF involvement

According to credit-rating agency Standard & Poor’s (S&P), the Ukrainian authorities have two ways to repay the Russian government. First, Ukraine could repay the debt at the expense of its foreign exchange reserves, amounting currently to about $12 billion. In practice, however, it cannot take this step, because at the request of the IMF, its gold and currency reserves not only should not be reduced, but should reach $17 billion by the end of 2015.

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Second, the country could default on these bonds. In this case, according to S&P, the necessary funds can be provided to Ukraine by the IMF. Since the beginning of 2015, Ukraine has already received $9.7 billion from international organisations and, as Ukrainian finance minister Natalie Jaresko announced on Oct. 16, the country plans to receive another $4 billion from international partners until the end of 2015. However, in this situation, the IMF loan would effectively go to the payment of Ukraine’s debt to Russia, a scenario unattractive to the western creditors.

“The IMF is unlikely to go for the provision of a loan to Ukraine to repay its debt to Russia,” says Andrei Margolin, vice-rector of the Russian Presidential Academy of National Economy and Public Administration. According to Mr. Margolin, politics dominates economics in this issue, and Ukraine’s debt to Russia falls into the category of sovereign debt.

“In accordance with the rules of the IMF, the programme of financial support for Ukraine would be suspended until the settlement of the public debt,” Mr. Margolin explains.

A similar position is shared by Verum Option analyst Alexander Krasnov, who maintains that the IMF’s statute prohibits lending to countries that do not repay their public debt.

Defining the debt

The Ukrainian authorities understand that the sovereign nature of the debt is a problem and try to challenge it, explaining that it had been issued to the previous regime. In late 2013, Moscow decided to support the Ukrainian economy, and agreed with then-president Viktor Yanukovych a loan of $15 billion.

At the expense of Russia’s National Wealth Fund (it consists of the revenues from the sale of hydrocarbons abroad), it was supposed to redeem the Ukrainian bond loan. The repayment of the bonds was scheduled for Dec. 20, 2015, and the coupon rate was 5 percent. At the same time, one of the conditions of the loan was the obligation to return the funds early if the total Ukrainian debt exceeded 60 percent of gross domestic product.

The Russian government only had time to transfer the first tranche of $3 billion to Mr. Yanukovych before Ukraine was hit by a political crisis, which led to the ousting of the president and a regime change.

Despite the loud rhetoric, however, Kiev seems to have an understanding that to deny the sovereign nature of the debt will be difficult in practice. Adam Derrick of the American Enterprise Institute sees a possible solution to the problem in offering Moscow a renegotiation on the terms of the loan, offsetting a preferential rate (5 percent compared with the market 12 percent) and at the same time placing it into the commercial category. However, judging by the current rhetoric in Moscow, it is unlikely to agree.

Air travel ban

The restructuring of Ukrainian bonds is not the only stumbling block for economic relations between the two countries. On Oct. 25, 2015, direct flights between Russia and Ukraine were halted. “We have received an official notification that all Russian companies will be prohibited from the use of Ukraine’s airspace,” Russian transport minister Maxim Sokolov told RBTH.

According to Oleg Panteleyev, head of analytical services at the Aviaport agency, “the decision to ban flights of Russian airlines to destinations in the territory of Ukraine is connected with Kiev’s objections against flights to Crimea conducted by these airlines”.

At first the ban did not extend to the airline UTair, which does not carry out flights to the peninsula, but later it was also included in the list. As a result, the sanctions will take effect against all Russian carriers. In response to these measures, the Russian authorities closed Russian airspace to Ukrainian aircraft. According to Mr Sokolov, the passenger traffic between Russia and Ukraine – despite its continued decline since the end of 2013 – amounted to 100,000 people per month in the first eight months of 2015.

“Given that Russian airlines made several times more flights between the countries than Ukrainian carriers, it is clear that their nominal losses from the closing of regular flights will be higher,” says Boris Rybak, a civil aviation expert with Infomost. “However, the loss of Ukrainian direction for Russian airlines is a loss of maybe half a per cent of the total passenger traffic. Of course, in real economic terms, any loss is bad, since air carriage teeters on the brink of profitability, and the situation is not healthy. But if Russian carriers are able to survive the closing of the Ukrainian direction, it is not a fact that the Ukrainian companies will survive the loss of the Russian route.”

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