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Economy is slowly dying: How Ukraine preserves poverty

Author : Oleksiy Kushch

In a recent interview, one of the National Bank heads said that the threshold of the Ukrainian economy growth is 3-3.5%. And striving to change this development paradigm, which sounds like a sentence, we will not succeed in the near future
20:26, 13 May 2019

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It has become “fashionable” for the current high-ranking officials to issue a “fashionable sentence” to their country. Being in a comfortable bath of personal contracts, they can afford the misanthropy of the English snob looking into the panoramic window of his cabinet at the end of the day. They have their own individual life "paradigm" and if we compare it with the economic development paradigm of the country, then it turns out that these are two parallel lines and they intersect only in conditions of critical social gravity, for example, during the Maidan period, when authorities saw that the country needed to develop not as “possible”, but as “necessary”.

The forecast for Ukraine’s GDP growth of 3–3.5% indicates that our country will never be able to catch up with the main peloton of not only developed but developing countries. And if we were located on Easter Island, maybe this would not be a significant problem, but we are on the eastern flank of the European ecumene and the common people can always look into the “crack” of the fence that separates us from the smart and beautiful. And this means that in conditions of extremely low economic development rates, Ukrainians will either have to “suffer” and console themselves, while descending to the bottom of the happiness index, or get rid of our " smart "officials and go to those economies that either know how to grow, or have long grown.

Returning to the above interview, it is worth noting that all effective central banks resemble each other, and inept ones are ineffective each in its own way. Indeed, no one will consider such a phenomenon as inflation apart from other basic indicators, such as economic growth or employment index. In this context, the leading central banks of the world are monetary doctors of their economic systems. The National Bank of Ukraine has long abandoned the active "medical" practice. Today it is the pathologist of the Ukrainian economy and its key “target” is maintaining the temperature of the “corpse” in the form of core inflation of 5%.

In this format, the National Bank’s assessment of the domestic economy growth prospects is indeed a qualitative “autopsy” of the patient and the conclusion that the “patient” died from an autopsy is completely objective. Yes, there are no super-dynamic global business cycles, with a galloping increase in prices for all basic resources. The epoch that began from the beginning of the 2000s and ended in 2008 will never be repeated. This requires new growth points of the global economy, comparable to China. To some extent, this could be India and the ASEAN-5 group of countries (Indonesia, Philippines, Thailand, Malaysia, Singapore). But their growth potential is not enough to form an explosive price wave in the market of raw materials and semi-finished products. According to the Rome Club concept, the USA and the EU are moving to the post-industrial phase of slow (“zero”) but steady growth, which will ensure relatively high employment of the population in the tertiary sector of the economy (services, science, education, medicine) and progressive growth of GDP within a few percent in a year. Taking into account the level they have already achieved - 2-3% growth is quite enough for them.

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True, there is Africa, where Ethiopia has already reached GDP growth rates of around 10%. But there is no consolidating core here that could ensure a long-term new industrial policy across a group of countries.

In this case, since raw materials will not grow significantly in the near future, the raw material model of economic development, currently used in Ukraine, will not be able to provide the necessary development dynamics at the level of 5% +.

In addition, even the increase in prices for raw materials, which exists today even in a corrupt, monopolistic, rental economy, is unevenly distributed among segments of the population. There is no inclusiveness in GDP growth: most of the “pie” is divided between about ten “families”, not reaching the “mouths” of ordinary citizens. With the help of controlled foreign companies, our companies cut off up to 30% of export earnings from the economy. The remaining 70% are distributed within the country, but also unevenly: “streaming” schemes allow us to divert a significant part of the financial flow too. That is, even in the case of the “African industrial explosion”, which would to some extent repeat the previous high business cycle, the rise in prices for metal and ore would be converted into new yachts, apartments in London for hundreds of millions of pounds, Brazilian football players, but non-real incomes of the population. And the country's GDP indicator would, at best, reflect only a part of this golden rain.

But there is another factor that makes high growth rates of our GDP impossible. And it is not customary in the National Bank to talk about it. This is the use of monetary potential in the interests of a narrow circle of lobbies of investment bankers, who, thanks to a policy of high base rates, earn billions in revenues on the government securities market. The entire issue of the regulator is immediately closed by such instruments as the Ministry of Finance and the National Bank’s deposit certificates. The economy receives almost nothing and is in a state of constant financial hypoxia. Here, a special role is played by the so-called Marshall coefficients, which show the level of monetization of a particular economy, and they are calculated as the ratio of the money supply to GDP. There is a clear link between the level of monetization and economic development. The richest countries, as a rule, have a very high level of monetization and at the same time quite low rates of inflation. Thus, in economies with a GDP level of $ 10-50 000 per capita, the money supply exceeds GDP (monetization level is more than 130%), and inflation is in the range of 0-3%. Developing countries (GDP per capita from 2.6 to 10 000 dollars) are characterized by an average level of monetization: 50-60% and inflation to 8%. The poorest countries (GDP per capita up to 2.6 000 dollars) have a low level of monetization (35-40%) and inflation rates above 8%. These are, as a rule, commodity economies with a high level of labor migration and corruption.

As a result of the economic crisis of 2008 and 2014-2015, Ukraine has dropped into the basket of the poorest countries: its GDP per capita is about 3 000 dollars, annual inflation is within 10%. As a result, it has extremely low level of monetization.

Today, the investment bankers lobby needs a stable exchange rate and low inflation amid high base interest rates on government bonds. This is achieved only by artificial monetary factors of "squeezing", but it provides the currency profitability of operations at the level of 15-20% per annum, which is not found anywhere else in the world. Along the way, this monetary model destroys the productive forces of the economy, and it really cannot grow above 2-3% per year.

In addition, financial transmission in the form of the banking system is completely inactive, which, due to regulatory requirements of the National Bank, has practically curtailed lending to complex economic projects, being content only with financing simple commodity cycles: sowed, harvested, sold - and related logistics. As a result, primary industries (grain, gas production, etc.) have high liquidity, and the industry is gradually dying, decreasing an already low stock of working capital. Earlier it seems that the financial system should become the intermediary that will direct the excess liquidity of the primary economical sectors into more capital-intensive and complex ones.

Norwegian economist Erik Reinert in his book ‘How rich countries got rich and why poor countries stay poor’ has convincingly shown that the so-called vicious circle of poverty, or the ontological circle of evil, dooms some countries with enormous starting opportunities to permanent subsidence along the rings of poverty to the bottom of the well. The main reason: focus on mono-production with diminishing returns and incorrect application of the theory of comparative advantage. This theory was formulated as early as the 19th century by the English economist David Riccardo and says that trade is beneficial not only if it is based on absolute advantages, but also on the use of relative ones. With regard to Ukraine, this trap of poverty looks like this: since we have favorable conditions for agriculture, we have absolute advantages in this industry compared to other countries, therefore we will concentrate on the production of corn, grain and sunflower oil, that is commodity mono-products with diminishing returns. But unlike goods with a high level of added value, the effect of scale on the output of agricultural products cannot be obtained. Thus, in the production of passenger cars, an increase in production volumes will lead to a reduction in costs, while in the agricultural sector and mining, on the contrary: each additional ton of wheat or new ton of mined ore requires new costs: fertile soils are exhausted, stocks are depleted. As a result, we got an economy in which only those industries developed that either had absolute advantages on the world market or relied on the production of agricultural mono-products and raw materials with diminishing returns. The industries with increasing returns, which could be based on the use of relative advantages, for example, processing, production of consumer goods, engineering and so on, practically did not develop.

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What can the developmental imbalances like ours lead to? Until 1960, the economy of Somalia was ahead of the quality parameters of South Korea. But the latter, thanks to a stake on the development of a creative and innovative economy (although independent industrial policy was implemented before), managed to break out of the vicious circle of absolute advantages in the form of cheap labor and agriculture, while Somalia continues to search for them in such an exciting occupation, as the "catching" of foreign tankers.

That is, the answer is obvious. In the current commodity paradigm, Ukraine in the coming years really cannot grow by more than 2-3%, and the role of the prime minister and / or president in this model is reduced to the level of a Facebook parrot collecting likes. In order to grow in the range of 5% + (and only with such dynamics the poverty can be overcomed in the foreseeable future), the 21st century New Economic Policy is needed. The model of quasi-war quasi-capitalism with externalities in the form of the National Bank policy, that is, actions that the market cannot absorb, has led the country into the most "stupid deadlock".

As shown by the UN report on global investment, over the past 10 years, 101 countries of the world, forming 90% of world GDP, develop in the paradigm of national industrial policy, the presence of which is the most important factor in attracting investment. After all, a long-term industrial policy gives investors so much needed markers and indicators to make the right investment decisions. This is confirmed by the report data: industrial policy in these countries relies on a long-term program to attract investments. Quote: "Modern industrial policy is one of the key factors determining trends in investment policy." The key objectives of the sovereign investment and industrial policy of a modern country are sustainable economic growth based on closed, endogenous models of internal development, as well as innovation, a creative knowledge economy, investments in new industries relevant to the conditions of the new scientific and industrial revolution. At the same time, about 40% of global investments are vertical (directed to the development of existing industries), 35% - horizontal (aimed at increasing labor productivity) and 25% - to new industries according to the scientific and industrial revolution (NIR). I think everyone has already managed to notice that in recent years Ukraine has been developing without a national industrial policy, with the expected lack of an investment strategy and the investments themselves. There is neither vertical (development of the existing industrial base) nor horizontal (productivity increase) investments. The only direction where money still goes to Ukraine is logistics, which serves the export of raw materials abroad.

Any GDP of a developing economy in dollar terms depends on three basic indicators: real growth rates, inflation rate (affects the GDP deflator and increase in its nominal value) and the national currency rate. In addition, there is such a thing as an import deduction, when the cost of imported goods is deducted from GDP (we have up to 50% of the turnover from foreign goods). At the expense of the GDP deflator, successful developing economies disperse the value of nominal GDP, which is then converted into a dollar equivalent. For this you need a stable exchange rate of the national currency. Since 2001, China has “accumulated” almost 50% of the inflation in its GDP, which is much more than in the EU and the USA. A reduction in the import component can add to the growth rate of gross product another 1-2% per year. Thus, for the growth of the dollar equivalent of GDP, any developing country needs three basic conditions: the average growth rate of real GDP is about 5%, which provides so-called "net" growth; moderate inflation deflator (for Ukraine it is 10% of inflation per year); stable exchange rate of the national currency (for Ukraine, revaluation is better) for profitable conversion of nominal GDP into a dollar equivalent. And the development of the domestic market and the production of a wide range of goods: if a country produces metal, then it must produce stationery clips.

That is, the combination of the new industrial policy and the development of the tertiary post-industrial sector of the economy with a sovereign monetary strategy even under current conditions can provide Ukraine with a growth of 5% +

Otherwise, the country is waiting for economic inversion. In the above interview, the deputy head of the NBU agreed that a low growth rate is an existential threat to the country, but in the medium term. A 2-3% growth does not eliminate the problem of poverty, but preserves it. In addition, the low rate of increase in GDP is an indirect motivation for new waves of labor migration.

After 2045, Ukraine is waiting for the inversion of economic growth, when the rate of slowdown in GDP will exceed the almost linear decline in the population. This will inevitably occur due to the increase in the proportion of elderly citizens, when there is simply no one to work and the per capita GDP indicator starts to slow down more rapidly than the demographic dynamics. In the option of economic growth of 2-3%, Ukraine will reach a maximum in the amount of gross product in the range of 130-140 billion dollars and then this figure will decline very slowly to the current level against the background of degrading infrastructure.

Today there are two paradigms of economic development. The first is the developed countries: the rich, the technologically advanced and the aging. The second is developing countries: still poor, only aspiring to new technologies, but young. Ukraine is a third type: poor, technologically backward, aging. The only competitive factor is the old industrial potential, which is rapidly being depreciated to zero, and the human capital at the old educational qualification, which is accelerated by the "modernized" new educational reform. These factors will disappear with decommissioned nuclear reactors, bridges and other engineering infrastructure, because to keep it at a minimum level, requires GDP at least $ 200 billion, that is, almost twice the current value.

The main reason for this is not the third phase of the demographic transition at all, but the fact that we tolerate the “elites” who associate our growth with commodity cycles. If in post-war Japan or South Korea or in post-Soviet Poland, central bank leaders tied the development prospects of their countries to the dynamics of metal prices, they would have already turned into agrarian raw material reserves.

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