Democracy Watch, 2011 - Issue 31

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With nationwide poverty worsening the government of Ukraine brings pension reform and social benefit reduction back into debate. EU integration negotiations continue, some Ukrainian regions take European promotion into their own hands.

Poverty and divisions in Ukraine
The rise of the Ukrainian middle class seems to have ceased over the last three years. Since 2008, global crises and ineffective economic policy have frozen development among small and medium enterprises, uprooting and scattering many members of the middle class in the process. By point of contrast, the assets of the 100 richest Ukrainians put together constitute 61% of Ukraine's GDP.

The current income of over 17% of Ukrainians is below the official minimal wage (set at 984 UAH as of October 2011 - US$123), meaning that over 7.5 million people are considered poor by Ukrainian standards. By the criteria of the United Nations almost 80% of Ukrainian families are impoverished (living on less than $14 US per day). Large families and families with children under 3 are the hardest hit, which is cause for concern in a nation with a rapidly decreasing population. Thus the work-able population is sliding into poverty. According to Lyudmyla Charen'ko from the Institute of Demographics and Social Studies of the National Academy of Science of Ukraine, 80% of households with at least one working person are poor in Ukraine. Low salaries lead to growing poverty and over time will doubtless undermine the national moral(1).

A widening class division amongst Ukrainian society between massed poor and the ruling elite threatens the social stability of the country. The recent protests, by entrepreneurs, students and the socially vulnerable, against current governmental policies are likely only the beginning of what might become a large-scale popular protest. We should remember also that the polarisation of a population leads to the stagnation of society, which is a major threat to democracy.

People First Comment: One of the questions that is regularly asked of Ukraine is: Why if the country is so rich in natural resources are the people so poor? Most of the responses are invariably emotional citing thieving politicians and corruption however further analysis of the data demonstrates that the primary cause of poverty in Ukraine is the political system that enables a select few to profit at the expense of their countrymen.

The GDP PPP (parity purchasing power) of Ukraine is estimated at $305 billion. According to research by the Ruzumkov Centre in May of this year 61% of the national GDP consists of the assets of the top 100 richest people. This amounts to $186 billion. This means that the remaining 39% is attributable to the rest of the population thus when the remaining $119 billion is divided amongst the rest of the 45 million population it amounts to not $6,700 as is regularly quoted but a pitiful $2,644 which would rank Ukraine 173rd in the international league table behind Yemen and just in front to East Timor. Perhaps this is the reality behind Ukraine’s increasing poverty.
Data source: CIA World Fact Book 2011

Controversial pension reform: back on the table
In early September the Parliament of Ukraine approved the long awaited and contentious law on pension reform - which was promptly ratified by the President. With these stages complete the new law will come into force as of the 1st of October, despite the numerous protests across Ukraine. The law rises the retirement age from 55 to 60 years for women and to 62 for men. The pensionable service has also been raised by 10 years for women and by 5 years for men. According to Sergiy Tigipko, Vice Prime Minister of Ukraine, the pension reform will allow the government to reduce the Pension Fund deficit. Last year the deficit reached 34 billion UAH ($4.2 billion US) and it is expected that this year it will be reduced to 17.8 billion UAH (US$2.2 billion)(2).

Ukraine’s pension payments absorb 16.5% of the nation's GDP. Few would argue the need for reforms considering the increasing number of senior citizens. For example, the retirement age has already been increased to 67 years in the majority of EU countries. Besides this, the IMF required Ukraine to conduct a pension reform in order to qualify for the stand-by loan of $16 billion US. With concern over the pension reform present throughout the population, opposition forces have united and are attempting to invalidate the legislation through the courts. ‘Batkivshcyna’ and ‘Front Zmin’ filed a joint action with the Constitution Court of Ukraine on the ground that the reform limits the rights and freedoms of the Ukrainian people.

According to experts retirement benefits will remain at roughly the same level, however with the national crises still on the rise, they suspect state officials will try to extract additional financial profit at the expense of retirees. With the legislation in place, the next year will show whether the new pension reform is effective and at what social cost.

People First Comment: Pension and medical reform are two of the most challenging reforms any government can face as they go right to the heart of society and affect all of us. Whether we like it or not we are, as a species, living longer and if it were not for cigarettes, alcohol, pollution and obesity we would probably live longer still. These two areas of social support account for the largest single items in any government budget. In the past there was a balance between the birth rate and death rate that maintained a quantifiable equilibrium but right across Europe the birth rate and correspondingly the work force has been falling to the extent that the elderly now account for a larger portion of society but the ability of the government to fund their social support has declined. Whilst highly unpopular, realignment with the modern reality is a fact of life that no government can afford to ignore

The real issue for governments however is not the reform itself but the way in which it is handled that will decide the level of public reaction. Pensions in Ukraine are already some of the lowest in Europe and this has a direct impact on the standard of living of some 30% of the population therefore any change needs to be explained to the people in clear and simple terms. Such is the strength and stoicism of the people that they will more than likely accept the new environment when they understand why. Unfortunately for the people their understanding is not helped by the politicisation of the issue by the opposition all of whom studiously avoided this reform when they were in power. To seek to gain political capital out of such reform when they have no viable alternative is reprehensible.

Social benefits in the firing line once again
The draft law N9127 has become the first attempt by any Ukrainian government to terminate Ukraine’s state benefit system. The government has occasionally demonstrated disregard for vulnerable citizens in the past, an example being the raid on ‘Indar’ – the only insulin plant in Ukraine, causing it to be temporarily shut down. Apparently undeterred by the recent protest of the Ukrainian Afgan war veterans, in which hundreds of retired soldiers nearly stormed Verkhovna Rada, the draft law has once again reared its head. Ukrainian citizens successfully defeated the first attempted attack on their social benefits and made strong claims at the time that they would spread protests all over Ukraine if the government decided to retry. At present nearly 20 million people from 350 different categories receive social benefits in Ukraine.

It is true that the bureaucracy loses a significant portion of the social benefits budget to fraudsters, who claim financial aid illegally on the basis of fake documents issued in exchange for a bribe. The State Statistics Committee has reported that salaries and personal profit from private business or individual entrepreneurship constitutes only 54.1% of Ukrainian families' financial assets. The major portion of the rest comes from state social payments, and the percentage is increasing. According to the Accounting Chamber of Ukraine, money from social benefits covers nearly 40% of Ukrainians’ monthly budget. The benefits budget also feels the impact of state officials who, despite many being multi-millionaires, enjoy state subsidies and other financial aid; not to mention the considerable portion of social budget absorbed by corrupt allocations, which line the pockets of state officials who abuse their office.

According to the World Bank, Ukraine expends nearly 21% of its GDP on social benefits (3). To optimise the national economy Ukraine will need to cut some of its support of the population, but, it should be done gradually in a transparent and reasoned way; starting with those who do not actually need any help from the state.

People First Comment: One of the most difficult transitions from the socialist command economy to the current market driven system was how to reduce the enormous state work force. Privatisation and the market economy have removed a large percentage but the state is still left with 55.9% of the nation’s disposable income originating from the state budget. In these times of international austerity this figure is totally untenable but you can’t just fire the people or they then fall back onto the state through social security dependency.

Whilst the government have taken steps to stimulate the economy through massive infrastructural development this is not a long term solution simply because the nation cannot simply carry on spending. The solution has to come from a strategic plan to wind down dependency on the state through the encouragement of the private sector.
Unfortunately in their bid to improve tax collection the government has instigated a major decline in the SME sector and whilst it may have improved the short term revenue position it may well have put a major brake on future development.

In the EU the average contribution to GDP by the SME sector is 54% whilst in Ukraine it is only 17%. The problem is that it is extremely difficult to set up and run a small to medium sized company in this tax and massively over bureaucratic environment. What is needed is a complete overhaul of the entire system of registration, management and taxation of SME’s as if the environment were more friendly and the systems clear and easier to follow then more people would set up legitimate companies, more tax revenue would be generated and less people would remain on the State payroll including tax officers.

Ukrainian regions seek ties with Europe
Vinnytsya has become the first region of Ukraine to present itself to the European Union Committee of the Regions in Brussels. The central Ukrainian oblast has been pursuing Europe-oriented policies for over 10 years already and its administrative-territorial units have signed over 200 agreements with 10 different Polish provinces. Vinnytsya region has publically lobbied for the integration of Ukraine into the EU at both national and regional levels. By presenting the experiences of Spanish, German, Romanian and Polish companies working in the region as well as the stories of Ukrainian companies, such as ‘Roshen’ and ‘Nemiroff’, operating on the European market Vinnytsya has enabled Europeans to look more closely at the opportunities in Ukraine(4).

Both Lviv region and Crimea have now presented their investment potential to audiences in Brussels and Lugansk and Donetsk regions have plans to follow suit. By performing these presentations the regions not only foster economic cooperation between Ukraine and Europe but also contribute to Ukraine’s European integration process. Some predictions suggest that the EU might sign an Association Agreement by the end of the year, making Ukraine the first member of the Eastern Partnership. This would be a considerable step towards full EU membership.

Therefore, presentations in Europe by Ukrainian regions are an important contribution to the common future of EU and Ukraine.

People First Comment: Whilst it is not the role of government to stimulate local level investment, central government can enable and facilitate it through tax incentives, by building roads, railways, airports and ports and by improving the overall conditions whereby business and trade can flourish. It is however the roll of regional and local authorities to make themselves attractive to investment and here the Vinnytsya, Lviv, Lugansk and Donetsk regional administrations have to be congratulated for taking the initiative.

One technique that has been tried in a number of countries by forward thinking governments has been to link state investment to the ability of the regional and local authorities to attract their own foreign investment. In some regions the State will hold back on a percentage of their investment until the regional authorities have matched it with an equal level of private sector investment. This combined approach ensures that government funding is not wasted on lazy administrations and that the impact of state investment is maximised through partnership with the private sector. This stick and carrot approach forces regional and local authorities into competition not just with other countries but also with other regions in their own country and it is amazing to see the results of a properly stimulated approach one of which is invariably a greater understanding of the role of democratic decision making at local level.

Quote of the week:
I see in the near future a crisis approaching that unnerves me and causes me to tremble for the safety of my country... Corporations have been enthroned, an era of corruption in high places will follow, and the money-power of the country will endeavor to prolong its reign by working upon the prejudices of the people until the wealth is aggregated in a few hands and the Republic is destroyed.

Unknown source

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