Kiev threatens the credit crash
Beside the relentless attacks of the Russian army, Ukraine now faces a shock on the financial front: A default on government bonds could significantly impact its war chest.
Over Kiev, daily circles not only Russian drones and rockets, but now also bankruptcy vultures. For Ukraine is embroiled in a debt dispute with its international creditors, in which not only investors, but also Kiev stands to lose a lot.
It's about bonds worth around 20 billion US dollars, about 15 percent of Ukraine's state debt, which Kiev had taken on before Vladimir Putin marched into Ukraine. For these, there are payments of 4.5 billion dollars this year and about 3 billion dollars annually between 2025 and 2027. Kiev wants, and the creditors have agreed, to waive part of the money. Since the war began, Kiev has therefore agreed with its international creditors on a payment postponement until 2027. However, private investors only granted a two-year extension. This deadline is now approaching on August 1. If no agreement is reached by then, Kiev could slip into a technical default within a grace period of ten days.
Kiev's investors, including Blackrock, the French asset manager Amundi, and Amia Capital from London, must prepare for losses. According to media reports, they are willing to forgo around 20 percent of their claims. However, the Selenskyj government is more inclined towards a debt haircut of 60 percent. But it's about more than just a few billion dollars for Kiev's war chest: A default could shake the already fragile confidence of financial markets in Ukraine's creditworthiness and further worsen its precarious financial situation.
Even private investors fill Kiev's war chest
However, even during the war, Kiev continues to take on debt from individuals, companies, and even international investors. They can only buy Ukrainian bonds through selected private and state intermediaries. But the market for Kiev's government bonds remains surprisingly liquid: Every Tuesday, the Ministry of Finance auctions government bonds with maturities of one to over three years. The proceeds are used for the financing of the most important budget items: military and social expenditures. The bonds in Hryvnia were last auctioned off at an average yield of around 15-17 percent, Dollar papers with over 4.5 percent, Euro bonds with over 3 percent.
Since the beginning of the war, Kiev has raised around 25 billion dollars for its war chest according to its own statements. The Ukrainian Central Bank and domestic financial institutions have bought most of these. But at least 2.4 percent of the outstanding bonds are held by foreign individuals. The Ministry of Finance has paid out 480 million dollars in interest to foreign investors so far.
The bonds of the Kiev government are in fact war bonds, even if they are not called that. A default could completely turn off investors. That would be unfortunate, as Kiev is already struggling to borrow on the capital market.
Expenditures of 93 billion Dollars have been approved in Kiev's budget for 2024. Only slightly more than half of this amount will be covered by Kiev's own tax revenues. The rest comes from financial injections of the International Monetary Fund (IMF), the USA, EU, Japan, and other countries.
The IMF alone intends to provide 15.6 billion Dollars in the context of its four-year aid program by 2027. Kiev has received 75 billion Dollars bilaterally since the beginning of the conflict up to the end of last year. An additional 37 billion Dollars are expected to come in just this year to fill the massive budget hole.
The largest expenditure item, totaling 46 billion Dollars, is understandably military spending. Ukraine can only just cover the enormous costs of the military apparatus on its own. For everything else - social services, healthcare, pensions - Kiev is dependent on financial aid from abroad. Without it, the state would have ceased to function long ago.
Every single additional contribution, which domestic and foreign creditors make through bond purchases, is therefore a blessing for Ukraine. Moreover, a payment default would be disastrous, as the willingness of financial markets to lend fresh money to Ukraine for post-war reconstruction could decrease. And finally, the squabble over the debt write-off is a measure of whether the markets even expect a repayment of their money to Kiev - that is, how they assess Ukraine's chances of winning the war against Russia.
The first round of talks between Kiev and its creditors was unsuccessful in June. Now, they have been discreetly resumed. In the meantime, the parliament has passed a law that allows the government to suspend all payments to creditors in case of a lack of agreement. No one can really afford this.
The financial investors, such as Blackrock and Amundi, hold State bonds worth approximately 20 billion USD issued by Ukraine before the Attack on Ukraine. If an agreement isn't reached by August 1, Kiev could face a technical default, potentially impacting its financial markets and escalating the country's economic struggles. These investors, including those in the European Union and London, are preparing for potential losses, with discussions underway regarding debt write-offs.
