Devaluation, what next

Factors of hryvnya stability are questionable
It is quite obvious that hryvnya stability has in the last 3 years been
artificially supported by portfolio capital inflows. Negative trade
balance since 2005 was offset by huge corporate borrowings, mainly
in the banking sector, which are likely to subside in 2009. Current
account deficit is expected to reach all-time high in 2008. It made $7.5
bln in 8M08, according to preliminary NBU estimates (6% of GDP) but
balance of payments was positive in this period (+$6.2 bln). Corporate
borrowings made $10.6 bln during 8 months with banks again
dominating in their structure ($6.4 bln). FDI totaled $8.1 bln while nonresidents
brought in $2 bln as bank deposits.

On this background trade deficit worsened further and made $9.2 bln
(merchandise $10.9 bln deficit and $1.7 surplus in services) in 8M08.
Rising demand for imports was to a large extent attributed to the
growing machinery imports (32% of the total merchandise imports).
Nearly half of it resulted from consumer demand for cars’ purchases,
which is beginning to subside, while the growth in other half is
explained by enterprises modernizing their facilities.

Another 30% of merchandise imports increase came from minerals’
imports, including oil and gas. It occurred mainly as a result of price
increases though the volumes have barely changed. Imports of
chemicals occupying the third position in merchandise imports have
grown markedly in 2008 and the balance of trade with chemicals was
negative as fertilizers were the only substantial contributors to
chemical exports.

Merchandise exports were traditionally dominated by steel (48%),
engineering (15%) and agriculture (12%). Steel sector exports rose
dramatically in 2008 (more than 50%) but largely due to favorable
price environment in 1H08 while output volumes grew by just 3.5%
during that period. Reversal in steel prices will definitely be mirrored
in export revenues. Other 2 largest contributors to merchandise
exports, engineering and agriculture, are not expected to show drop
in their revenues. Heavy reliance of the leading domestic engineering
producers on orders from Russia and other neighboring countries will
help them to continue increasing exports while this year’s rebound of
the agricultural sector output will positively impact further increase in
exports.



Resuming the above, this year’s forecasted record total trade deficit
of $13.5 bln will show lower value in 2009 as demand for imports,
especially passenger cars, is subsiding, basic materials’ imports will
slow down on declining prices (with natural gas being an exception).
Engineering and agricultural exports will offset the inevitable decline
in revenues from steel and mining industries.