Ukraine: how to ‘build back better’?
Sunday 11 June 2023
Anna Babych
Aequo, Kyiv
babych@aequo.ua
Introduction
Ukraine’s recovery will require enormous human and financial resources. As of March 2023, Ukraine’s reconstruction is estimated to cost $411bn, which is 2.6 times Ukraine’s expected 2022 gross domestic product.[1] Over the past 60 years, no single conflict or disaster has involved recovery estimated at more than the Marshall Plan – the equivalent of $140bn by today’s value – so the Ukrainian case will be unique.
The rebuild will impact every sphere of public life. Specific mechanisms are currently being discussed, with legal aspects of the rebuild being one of the key areas for consideration. Below are some other key aspects of the rebuilding of Ukraine to think about.
Time is money (return to pre-war gross domestic product)
It took countries that were able to recover (return to pre-war gross domestic product) after the Second World War five to ten years to do so, but many countries either did not recover at all, or took decades to recover. The average amount of financial aid received by countries for recovery after armed conflicts is 40 per cent of their losses.
To keep it simple, the sources for financial rebuild can be broken down as follows:
- the state budget of Ukraine;
- donors;
- development banks;
- confiscated Russian assets and reparations; and
- private money from investors.
This matrix clearly illustrates that each source has its limitations and specific solutions.
Ukraine is currently ‘out of budget’ for recovery – everything is spent on social and defence needs. Sovereign donors, international financial institutions and development banks have their terms and time limitations. Other cases of war recovery illustrate that during the first five to ten years the international donors cover only approximately 50 per cent of the country’s budget.
The confiscation of Russian assets is an ever-matchless sanctions enforcement case. The Government of the Netherlands officially agreed to create the ‘Register of Damages Caused to Ukraine by Russian Aggression’. It will contain information about the war-caused damage suffered by individuals, businesses and the state of Ukraine. Under the rules of international law, this Register should become the first component of a comprehensive reparations mechanism designed to ensure that the aggressor state pays Ukraine full reparations for the damage caused. However, the lawyers are well aware that it will take years, not months to get there.
Money is not a guarantee of success
Although the topic of post-war recovery is not extensively covered by academic research, most experts believe that the amount of recovery aid is usually not related to the success or failure of the countries’ further economic development. In simple words, having money for rebuild does not necessarily lead to quick and sustainable reconstruction.
For example, both social and commercial infrastructure is one of the obvious priorities to start with. However, such cases as the rebuilding of Afghanistan or Iraq prove that the quick restoration of infrastructure does not necessarily lead to a ‘magical’ re-start of the economy. When the sums of donor money eventually decrease but the private business has not jump-started yet, there is still a long way to go for a full recovery.
The important aspect of the rebuild
The social considerations are the most critical for the visionary rebuild plan. The stimulation of the private sector is essential, among other things, for the fight against unemployment, depopulation and brain-drain. Rebuilding a better labour market and competitive economy to which out-migrants might want to return is a challenging task for the Ukrainian government.
The need for complex educational reform and social reform for the reintegration of veterans will thus need to be stimulated by the upgrade of extremely outdated labour and social regulations in Ukraine. So far, Ukraine still uses the outdated Soviet Labour Code of Ukraine, which doesn’t address the needs of a modern digitalised economy, creative industries or inclusivity criteria.
Can the EU integration boost recovery?
Integration into the global economic system has a high impact on recovery and economic development. Ukraine obtained its European Union candidate status on 23 June 2022 and targets a two-year sprint to join the EU.
Recently, the Parliament of Ukraine established a project office to tackle the harmonisation of Ukrainian laws with EU regulations. The four priority areas of the EU integration review of Ukrainian laws have been named: environment; intellectual property; financial services; and consumer rights and health protection. Therefore, those industries will soon face an upgrade of regulation and related compliance tasks.
Is there a magic pill?
Successful cases of rebuilding have one thing in common – the participation of private businesses in recovery (for example, Croatia, or Korea after 1961). Local business, as well as foreign investors, will become the key components to kickstarting the economy while the donor money is still there.
However, there are bottlenecks for private sector engagement. The first one, until the war is over, is the political and war risks insurance. The donors, along with Ukraine and the international insurance industry, will need to offer reasonably priced insurance solutions to allow the bravest to be first to invest. Insurance solutions offered by the Multilateral Investment Guarantee Agency (MIGA) and the export-import agencies are being discussed as the only ones available so far, but these are not seen as fundamentally ‘changing the game’. Therefore, many strategic investors will sit and wait until the active war is over.
On the other hand, at present the ‘national champions’ for investments are already identified. The infrastructure and energy sectors – with a focus on renewables and green rebuilding – come first. The traditionally strong sectors, such as IT, agriculture and processing, come after. The new leaders, such as defence and military, healthcare and education, will not be far behind. For example, de-mining, defence technology and prosthetics healthcare are already termed the new sectors to watch and invest in. For some of them, the special tax regime is argued to skyrocket the growth of new industry ecosystems.
Furthermore, the so far unexplored tools to succeed are being discussed by Ukraine. The first one is a sovereign wealth fund of Ukraine, which will manage the cherry-picked state-owned assets according to world-class standards. Another one is an investment fund solution that will help to attract international private money to Ukraine, backed up by state presence and guarantees. The latter was recently announced: Ukraine will work with BlackRock and J.P. Morgan to form a development entity that will become the first investment driver for the first projects and help open Ukraine to worldwide businesses.
Conclusion
So, what could be a ‘game changer’ for a significant inflow of foreign capital? The liberalisation/de-regulation reforms and the rule of law are the key pillars. Tax administration and law enforcement reforms, as well as the continuation of the judiciary reform, are named among top three priorities.
Anti-corruption reform continues to be of the highest priority, as it was long overdue even before the war. Actually, it is the name for more complex problems of a formerly socialist developing economy – inefficient non-digital government services, overcrowded and ineffective public service with uncompetitive salaries, and bad governance of state-owned enterprises.
With the above commitment, Ukraine could become the most attractive country in Europe (at least) for impact investors. What does it mean to do impact investing? It is an investor with a focus on the companies that create measurable, positive change in addition to generating a bare financial return. Impact investors are also often called ‘ESG investors’ since they consider the environmental, social and corporate governance standards and further impact. Such investors are more than welcomed into Ukraine for obvious reasons.
Ukraine should not rebuild the past, but rather leapfrog for rebuilding the country sustainably, innovatively and inclusively. Becoming a magnet for investors that contribute to the growth of all industries could become the Ukrainian national strategy for decades.
Notes
[1] New study by the World Bank, United Nations, European Commission and Ukraine.