In contrast to Germany, where about 85% of the agricultural sector’s external financing is provided by banks, the banking sector played a minor role in financing the agricultural sector in Ukraine. This has changed considerably in the years 2000 and 2001, as is outlined in the following.
3.1 Who finances farms in Ukraine?
According to the annual reports of the Ministry of Agricultural Policy, which reflect the con-solidated balance sheets of all collective agricultural enterprises (CAEs) in Ukraine3 – financial re-sources are derived from a number of re-sources. Table 1 shows that CAEs relied almost exclusively on short-term external capital and that the share of bank credits in external financing shrank con-stantly up to 1999. Indeed, bank financing is negligible in the years after 1996, even if one accounts for the fact the farm assets are typically overvalued (TACIS 2000).
Table 1: The financing structure of the CAEs in Ukraine from 1992 till 1999
1992 1993 1994 1995 1996 1997 1998 1999 Share of equity capital in total capital (%) 83.2 80.6 60.7 83.7 92.5 89.1 84.2 80.8 Share of external capital in total capital (%) 16.8 19.4 39.3 16.3 7.5 10.9 15.8 19.2 Share of short-term capital in total external capital (%) 95.2 98.9 99.0 98.3 99.8 99.5 82.2 74.1 Share of bank credits in total external capital (%) 38.3 16.0 35.0 16.0 13.0 7.0 3.7 3.1 Source: MINISTRY FOR THE AGROINDUSTRIAL COMPLEX (1992-1999): Annual Farm Accounting Reports, various issues.
Own calculations.
As can be seen in figure 1, in which the shares of total debt owed to different types of lender are depicted, the debt to the banks diminished to 3.1% of the total debt by 1999, while the share of debt to the state increased to 38.2%. As the total amount of CAE debt as of December 31st 1999 was 15.2 bUAH, the debts of the CAEs to the state equalled 5.8 bUAH. This figure includes tax debts and central fund payments, the latter being the payments the state made through its government agencies that provided inputs to the agricultural enterprises. Most of these government credits were never paid back, as some agricultural enterprises were unable to repay, and some of these credits were misused (CHAMBER OF ACCOUNTING OF UKRAINE 2000).
With Law No. 1565 (16.03.2000) "On the depreciation of taxes and other dues", all farm debts to the state were cancelled. Before and especially after the cancellation of these debts, private input suppliers were and remain the most important lenders to CAEs in Ukraine. According to fig-ure 1, their share in total debt was roughly 45% at the end of 1999 and the total amount of their claims on the CAEs was 6.8 bUAH. After the cancellation of state debts, this amount accounts for roughly 73% of total debt. The CAEs’ remaining debt is to their employees and accounted for an almost constant share of 10 to 13% up to 1999.
3 It is clear that many agricultural enterprises, namely the entire private sector and all household production, are ex-cluded from this analysis. Unfortunately, no comprehensive data on these enterprises are available.
Figure 1: The shares of different creditors in the total debts of Ukrainian CAEs
To the input suppliers
To the state
Wage arrears To banks
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1992 1993 1994 1995 1996 1997 1998 1999
Share in %
Source: MINISTRY FOR THE AGROINDUSTRIAL COMPLEX (1992-1999): Annual Farm Accounting Reports, various issues.
Own calculations.
At first glance, the total debt burden of the Ukrainian CAEs appears huge. Including the now cancelled debts to the state, the value of all debts amounted to the total volume of goods sold by Ukrainian CAEs in 1999. Even after the cancellation of state debt, the remaining debt still amounts to roughly 8% of total Ukrainian GDP in 1999. Is this debt burden too heavy for the CAEs, and is it high by international standards? In table 2 the average debt per CAE is calculated by dividing total debt by the number of CAEs. The average CAE had a debt burden of 1,236,700 UAH at the end of 1999, and this was reduced to 763,700 UAH by the cancellation of state debts. This amount corre-sponds to no more than the price of a western-style middle-class combine harvester.
Table 2: The debt burden of Ukrainian CAEs per enterprise and per hectare in UAH
1996 1997 1998 1999 Total debt per CAE 603,400 848,900 1,137,100 1,236,700
Remaining debt per CAE without state debts 429,200 562,300 676,800 763,700
Total debt per hectare arable land 228 332 455 496
Remaining debt per hectare without state debts 162 220 271 306 Source: MINISTRY FOR THE AGROINDUSTRIAL COMPLEX (1992-1999): Annual Farm Accounting Reports, various issues.
Own calculations.
Of course, an enterprise’s indebtedness cannot be measured by the volume of its debts alone.
Instead, debts must be seen in relation to the enterprise’s income generating potential. Although there are some sophisticated measures for income generating potential, land is still most often used both for this purpose and for measuring the size of a farm. As the most reliable agricultural data available in Ukraine is on land use, arable land is used as a proxy for income generating potential to compare the indebtedness of German and Ukrainian agricultural enterprises. To account for different product prices, indebtedness is converted into t of grain, which is the most important crop product in
both countries. Although it is clear that this comparison provides only an imperfect measure of the indebtedness of the agricultural enterprises in Ukraine, it offers some interesting insights: The debtedness per hectare in t of grain is rather low in Ukraine compared to Germany. All debts – in-cluding the debts to the state which were recently cancelled – account for not more than 0.99 t of grain per hectare.4 Without state debts, the figure for Ukraine is even lower at just 0.61 t/ha.
3.2 The new role of the banks – developments in 2000 and 2001
The year 2000 has seen considerable changes in the external financing of agricultural enter-prises in Ukraine. All this was the direct result of the reform policy that took place starting at the end of 1999. The Presidential Decree "On urgent measures for accelerating agricultural reform" of De-cember 3, 1999, stipulated that all CAEs distribute land shares and restructure to form new entities.
This increased the creditworthiness of Ukrainian farms considerably. First, it clarified the relation-ship between farm management and farm members, who now receive only land lease payments.
Simultaneously, it reduced members' participation in the decision making process considerably. This has made the decision making process more transparent and less cumbersome, and has reduced the incentives for farm managers to steel from their farms.
The second important change was the cancellation of the so-called state order, and therefore the withdrawal of the government from direct involvement in agricultural input supply. Furthermore, by the resolution of the Cabinet of Ministers “On new approaches to supplying inputs to farms” of January 17, 2000 and resolution No. 398 “On additional measures on crediting a complex of agricul-tural works” of February 25, 2000, a partial interest rate compensation mechanism was imple-mented. This stipulates that the interest rates farms pay for credits from commercial banks is com-pensated by 50% of the NBU discount rate on the day of signing a credit agreement, but no less than 17.5% of the annual rate.
All of these changes in the environment for crediting agricultural enterprises can be summa-rised as follows:
1. The creditworthiness of farms was improved due to restructuring and the increased re-sponsibility of farm managers. This made many farms more attractive for banks. Further-more, the profitability of farms has increased sharply as a result of favourable agricultural product prices and reduced government interference in the marketing of agricultural prod-ucts. Other policy measures – even if they were rather expensive and their appropriateness has to be questioned – have also increased the profitability of farms. These are the writing off of tax debts and the exemption of agricultural enterprises from VAT.
2. The business environment for banks has improved substantially. This was due to a stabilised macroeconomic environment, which in turn led to falling interest rates (see figure 2), less government interference into the decision making process of banks and improved expertise within banks for assessing the creditworthiness of agricultural enterprises.
3.3 The results of recent policy changes
The results of the policy changes that took place beginning at the end of 1999 are positive and were unexpected for many observers. These results have proven that the supporters of heavy government involvement, who succeeded in lobbying for government provision of inputs in 1999 and the years before, were wrong. Indeed, this policy failed four years in a row – in all of these years the state was unable to collect more than 50% of its outstanding debts. Instead, the liberalisation of input supply and less government involvement have proven to be successful.
4 Debt is measured in t of grain per ha based on a grain price of 500 UAH/t in Ukraine and 250 DM/t in Germany. The average debt per hectare of 496 UAH in Ukraine corresponds to 0.99 t of grain/ha. In Germany farms carry a debt burden of 3,429 DM/ha, which corresponds to 13.7 t/ha.
Furthermore, with the partial compensation of interest rates, the government chose the right instrument to foster the provision of credit for agricultural enterprises. Whereas direct government involvement in the credit cycle is seldom useful (see for example V. PISCHKE, 1999), the partial compensation of interest rates created the right incentives at the right time. Furthermore, this policy has been rather inexpensive. 175 mUAH were allocated in the 2000 state budget for this program, but not more than 50 mUAH were used.5 By comparison, billions of Hryvnia were spent on farm subsidies in earlier years,6 to little effect.7
The partial compensation of interest rates has had the following effects (figure 2): The cen-tral bank interest rate was rather volatile since 1997. From a low of under 20% in the second quarter of 1997 it reached levels of over 80% during and after the financial crisis in 1998. Since then it has fallen constantly to a level of 26% in the first quarter of 2001 and even further to 19% in June 2001.
The average interest rates on commercial banks credit were also very high after the financial crises, reaching a level of 65%. In the course of macroeconomic stabilisation they diminished to around 35% in the first quarter of 2001. Figure 2 shows that the level of interest rate compensation was 17.5% in all months except January. The difference between commercial rates and the interest rate compensation remains to be paid by enterprises of the Agroindustrial Complex (AIC).
Figure 2: Central bank interest rates, commercial bank interest rates, interest rate compensation and the resulting interest rate for AIC enterprises in 2000
-20.0 40.0 60.0 80.0 100.0
I qua rter 97
III quarter 97 I quarter 98
III q uarter 98
I quarter 99 III quarter 99
January 00 March 00
May 00 July 00
Septem ber 00
Nov emb
er 00 January 01
March 01
Interest in % per annum
Subject to compensation from the budget NBU discount rate
Interest rate on credits Has to be paid by farms
Source: NATIONAL BANK OF UKRAINE (2001): Statistical data.
The mechanism of interest rate compensation is – without going into details – rather simple.
An agricultural producer applies for a credit at a commercial bank. If the credit is approved by the bank, the bank and the farmer apply for compensation with the oblast administration. The oblast administration itself consults with the Ministry of Agricultural Policy (MAP), which in turn assign
5 This can be explained by the fact that many of provisions of the program were not clarified before May 2000.
6 See chapter 11 on WTO Accession and Agricultural Policy in Ukraine.
7 The partial interest compensation was continued in 2001. In accordance with the Law of Ukraine No. 2120-III of December 7, 2000 “On the state budget of Ukraine for 2001” 150 mUAH were allocated in the national budget.
the treasury to transfer the money to the banks, if the application is approved. The advantage of this mechanism, and a major difference from the practice in former years, is that the creditworthiness of the applicant is determined by the commercial bank and not the state. The banks know that they will be compensated by 50% of the NBU interest rates, but this does not reduce their incentives to assess the creditworthiness of borrowers carefully. Hence, only profitable enterprises are subsidised, and unprofitable enterprises must attempt to increase their profitability before they apply for credits.
This mechanism differs from that applied in other countries such as Germany, for example, where government agents decide on the provision of subsidies to farms. In the case of Germany, it has been demonstrated that the government's agents systematically fail to assess the creditworthiness of farms correctly (STRIEWE ET AL., 1996; FORSTNER, 1999).
Altogether, Ukrainian commercial banks gave credits to agricultural and food sector enter-prises of about 1.8 bUAH in 2000. Of this amount, 818 mUAH were provided under the partial compensation scheme, of which agricultural enterprises received 56%, grain procurement and grain processing enterprises 28%, sugar refineries and sugar factories 10%, and others 6% (see figurer 3).
51 commercial banks took part in that scheme and provided credits to agricultural and food sector enterprises in 2000. Of these, Bank Ukraina (25%), Aval (21%) and Prominvestbank (16%) played leading roles.
Figure 3: Repayment of credits to AIC enterprises under the interest rate compensation scheme in 2000
0%
20%
40%
60%
80%
100%
Agricultural enterprises Grain procurement and grain processing enterprises Sugar refineries and sugar- factories Pig- and poultry producers Others
-50 100 150 200 250 300 350 400 450 500
Volume of credits in mUAH
Total credit volume Due at Dec.1. 2000 Repaid at Dec. 1. 2000 92% 89%
72%
72%
Source: CHAPKO (2000).
Of the total credit volume under the partial compensation scheme of 818 mUAH, agricultural enterprises received roughly 460 mUAH. Note that the total amount of credits to agricultural enter-prises amounted to 1 bUAH in the year 2000. Hence, only 46% of all credits were provided under the partial compensation scheme, and 54% were provided on the free market. Since credits from commercial banks to agricultural enterprises were almost non-existent in 1999, this is a clear indica-tor that the business environment for bank credits has improved substantially.
Total credit volume is only one very partial indicator of the situation in 2000. The perform-ance of the banks and the enterprises that received credits has to be further assessed by the rate of
repayment. Recall that in the years prior to 2000, when the credit volume provided by the state amounted to 2 bUAH/year and more, the repayment rate was under 50%. Under 'normal' conditions this would result in the bankruptcy of any bank; under Ukrainian conditions the state-budget ab-sorbed the losses.
To assess performance in 2000, the repayment rate of the different enterprises credited under the partial compensation scheme is depicted in figure 3.8 On the right axis the total credit volume to different branches of the Agroindustrial Complex (AIC) is depicted. A little more than 80% of the loans to agricultural enterprises was due on December 1st 2000. Of this amount, 92% had been paid.
If 8% of all credits are not paid back in the long run, this would be a bad result as it would directly translate into higher interest rates. But under Ukrainian circumstances this is a rather promising re-sult. Interestingly, it corresponds to the repayment figures that banks in the Eastern part of Germany were confronted with in the first years after reunification. Thus, they can be seen as ‘normal’ in the early stages of the real transformation of agriculture. Nonetheless, it is important that the repayment rate remains at least stable or improves in coming years to attract banks into doing business with agricultural enterprises. A high rate of repayment must also prevail in years in which the prices are less favourable than in 2000.
The other branches of the AIC performed worse. Repayment rates of 72% for grain procur-ing and processprocur-ing enterprises and sugar factories are unacceptable. Although it is not clear whether this figure increased in the following months, such a low repayment rate would bring the credit pro-vision by banks in any western country to a standstill. To sum up: The results of the year 2000 are promising. But it is still unclear whether this promise can be kept. For this to happen a number of preconditions have to be fulfilled as will be argued in the following section.