As Russia’s invasion of Ukraine moves into its eighth week, the National Bank of Ukraine (NBU) has found itself fighting another battle – one to prevent its economy from total collapse.

Debtwire spoke to Kyrylo Shevchenko, the governor of the NBU, about the tools the bank is using to support Ukraine’s economic and financial situation, the support it requires from the international financing community and the outlook for Ukrainian external bond repayments.

The NBU’s economic outlook for 2022 is, to no surprise, a negative one. When Debtwire last sat down with Shevchenko in December 2021, there were hopes that tensions on Ukraine’s eastern border would ease and Ukraine could see economic growth of 3.8% year-on-year in 2022. It is very difficult to estimate the economic shock of the war as of yet, but it will be “tremendous”, according to the NBU.

In addition to what it labels as its “contingency buffers”, the central bank has taken a number of steps to maintain economic, financial and FX stability since the start of the invasion on 24 February, such as switching to a fixed exchange-rate regime and restricting cross-border remittances among other transactions. As such, Shevchenko claims that the bank’s reserves are higher today than they were prior to the war, as a result of strong international support.

While discussions around debt default – in both Ukraine and Russia – have risen to the top of investors’ agendas, the NBU assures that Ukraine will continue to repay its debt and that “the issue of debt restructuring is off the agenda”.

Notably, the NBU has decided to refrain from making interest-rate decisions for the time being, stating that it will pivot back towards its “inflation-targeting regime” once the war is over.

But the NBU says it is still in need of further support from the international community – Shevchenko urges for the US and the EU to freeze the assets of all Russian banks, including limiting their access to financial resources in their respective markets, and for China UnionPay to suspend transactions with payment cards issued by Russian banks.

But as few see a clear end in sight to the conflict, with Russian President Vladimir Putin stating on Tuesday that peace talks with Ukraine were at a “dead end”, martial law looks set to remain in Ukraine, and has been extended to 25 April.

Shevchenko’s responses to Debtwire’s questions are detailed below:

What is the economic outlook for 2022 amid the ongoing conflict?

Of course, GDP will not grow in 2022. Because of Russia’s full-scale assault on Ukraine, business activity in our country has fallen sharply. It is very difficult to make any specific estimates. Most indicators are impossible to calculate right now. However, it is clear that the economic shock of the war will be tremendous. We will need massive resources to rebuild the economy.

Ukrainian businesses have once again demonstrated that they can adapt even to the worst conditions. Companies are gradually learning to operate in wartime.

First, many businesses have relocated to Ukraine’s west. Second, some supply chains have already been rerouted. Third, the share of companies that have completely shut down shrank slightly to 27% in the second half March, down from the start of March, according to a snap business outlook survey by the NBU. We expect this ratio to decline further. What is also important is that Ukraine has recently regained control of some of the areas temporarily seized by the aggressor. A stable banking system and support from the government have helped businesses adjust to the war.

It is vital for the Ukrainian economy that farmers begin to sow their crops on time even as hostilities rage on. The sowing is ongoing in 21 regions of Ukraine, including active combat zones. However, grain exports this year will decline, hampered primarily by Russia’s war of aggression. This may affect global food security. Even a partial drop in grain exports could lower the quality of life for more than 5% of the world’s population, due to both higher prices and reduced supplies, we estimate. This is especially true for developing countries, the Middle East, and South Africa. Therefore, the sooner we liberate our territory from the Russian invaders, the smaller will be the impact of this war on the rest of the world.

Speaking of negative GDP dynamics, the IMF has recently conducted an analysis of how economies such as Iraq’s, Lebanon’s, Syria’s, and Yemen’s have responded to wars. The fall in GDP in these countries peaked at 25%–35%, the IMF study shows. But those wars lasted long.

This means that the actual economic fallout, both for Ukraine and the rest of the world, will primarily depend on the duration of Russia’s war of aggression.

Our enormous gratitude goes out to our partners for their help and sanctions against Russia. We call on the world to press forward with these efforts. The longer that the global leaders procrastinate, the more Ukrainians will die. That includes children. According to official data, 177 children have died and 324 have been injured since the war broke out. Be advised that these numbers have yet to be adjusted. Some of the regions that have come under attack have not been able to provide any data on their death toll. It hurts me to say it, but I must. For Ukraine, ending the war is less a matter of economic downturn than a question of our survival as a nation.

Which tools will be used to stabilise the hryvnia and inflation? Will there be further interest rate hikes?

On 24 February, when Russia launched its war of aggression against Ukraine, we imposed restrictions on the banking sector and the FX market. We had a plan in place and we acted on it rapidly, thanks to our prior experience introducing administrative restrictions.

We temporarily switched to a fixed exchange-rate regime, setting the hryvnia to UAH 29.25 against the US dollar. We also took steps to restrict purchases of foreign currency, cross-border remittances, and other transactions. We have been easing these restrictions as things have improved. Our priority in this area is to enable the public to use their funds. We also aim to prevent unlimited capital outflows from Ukraine.

The timely introduction of restrictions at the beginning of the war and a healthy banking system helped us maintain the stability of the banking sector. Based on the experience of Iraq, Lebanon, Syria, Yemen, and older conflicts, including the Yugoslav Wars, the banking systems of those countries came to a halt almost immediately. Ukrainian-based banks are operating smoothly. More than 70% of branches are currently open to the public every day. Cashless payments are accepted 24/7. The stability of the banking system helps ease the economic fallout from the war.

With the administrative restrictions in place, regular market-driven monetary instruments are not playing a significant role in the operation of financial markets. With this in mind, we have decided to refrain from making key policy rate decisions for the time being. At the same time, we have declared that after Ukraine is liberated from Russian invaders, we will go back to our traditional inflation-targeting regime with floating exchange rates.

We’re not seeing a big difference between the official exchange rate and the one in the black market. The unofficial exchange rate is getting increasingly closer to the NBU rate. The black market rate stands at about UAH 32 against the US dollar, a strengthening from UAH 40 per dollar at the start of the war. This deviation could have been much larger, but it came out small. This is a result of long and diligent preparations that preceded the war, as is the overall stability of the financial system.

Thanks to these pre-war efforts, Ukraine has first of all managed to accumulate contingency buffers by pursuing a balanced macroeconomic policy. That includes a moderate budget deficit, a reduced debt burden, control over inflation expectations, a floating exchange rate, and significant international reserves. These reserves are now even higher than prior to the war, thanks to international support. As a matter of fact, Ukraine had more money in international reserves when the war had started than before the previous crisis.

Second, Ukraine had built out a resilient financial system.

Third, as I said, the timely deployment of administrative controls was helpful.

Taking into account these qualitative changes, which our country made in the years leading up to Russia’s full-scale invasion, as well as substantial international support, I am sure that we will stay strong and prevail.

However, the war will surely have adverse consequences for the Ukrainian economy. Ukraine will need a massive reconstruction program to finance its rebuilding efforts after it wins the war.

What support does the NBU need from the international community?

We are sincerely grateful to all our international partners for their help and support. Since the very beginning of Russia’s military aggression, the NBU placed a special focus of its international activity on searching for ways to increase financial pressure on the aggressor and his ally, Belarus. Sanctions imposed on the Russian Federation and its ally Belarus are indeed unprecedented. By now, including due to the NBU’s appeals, the following has been done:

• key Russian banks have been cut off from SWIFT
• assets of the central bank of Russian Federation have been frozen
• Visa and MasterCard have left the Russian market
• the USA and EU stopped their deliveries of cash to the territory of the aggressor states
• the absolute majority of EBRD Board of Directors voted to initiate the procedure of blocking the access to all EBRD resources for Russia and Belarus
• the World Bank Group decided to terminate all its programs in Russia and Belarus
• the BIS decided to restrict the Russian central bank’s access to all of BIS meetings, services, and activities
• top global insurers (Allianz, Swiss Re, Zurich, Hannover Ret, Generali) and insurance brokers (Aon, Marsh, Willis Towers Watson) announced their decision to cut back on their business in Russia
• the largest trading platforms – Refinitiv and Bloomberg L. P. – decided to suspend the provision of data transmission and analysis services to all clients operating in Russia
• French banking groups – BNP Paribas and Crédit Agricole – announced that they were suspending their operations in Russia. ING also announced that it would not enter into new agreements with Russian and Belarusian companies, regardless of the country where those companies operate. RaiffeisenBank International and OTP Bank said they were considering a possible exit from the Russian market

However, the offensive continues, and we are looking for new levers of pressure on the aggressor that can be deployed in cooperation with our international partners. Specifically, we look forward to the following decisions:

• by the US and the EU to freeze the assets of all Russian banks, including suspension of their access to financial resources in the US and EU markets, and instructions to the US and EU banks to sever correspondent relations with all banks based in Russia
• by SWIFT to disconnect Russia’s central bank
• by the central banks of Armenia, Kazakhstan, Tajikistan, Vietnam, Turkey, and the Kyrgyz Republic, to deny servicing the MIR payment system
• by China UnionPay and UnionPay International, to suspend transactions with payment cards issued by Russian banks and by central banks of 72 countries to stop the use of Russian-issued UnionPay cards. In this regard, the National Bank of Belgium assured us that it would monitor the situation and if it saw indicators of circumvention of sanctions imposed on Russia,  it would take action and inform the NBU
• by Canada, Japan, Switzerland, US, UK, EU to impose sanctions on foreign branches of Russian banks
• by Joint Vienna Institute to shut down access to educational programs for citizens and government entities of Russia and Belarus
• by the Financial Crimes Enforcement Network (FinCEN) to initiate preventive investigations into tax residents and businesses controlled by Russian residents around the world in order to prevent the spread of international terrorism
• by the central banks of Canada, Japan, the US, the UK, and the European Central Bank to offer commercial banks to open single special accounts for raising funds for Ukraine
• by the European Commission and the European Central Bank, central banks of of Japan, the United Kingdom, and the US, to impose a sweeping ban that will forbid financial institutions based in these countries and their counterparties to process payments in the Russian and Belarusian rubles and to open ruble-denominated accounts and exchange the ruble for other currencies

Apart from the domestic bond auctions and agreements with the IMF/EU, which other funding sources is Ukraine looking at?

Ukraine has received extra financing allocated by the IMF, World Bank, European Commission, and partner states of Ukraine. We have already received USD 1.4bn from the IMF and the first tranches of EUR 600m in macro-financial aid from the EU, almost EUR 640m from the EIB, around USD 450m in equivalent from the World Bank, and EUR 300m from the AFD.

At the same time, on 8 April, the IMF Executive Board approved the creation of the administrative account for crediting funds to support Ukraine. The funds credited to the account will be used to meet the needs of the balance of payments and the state budget to stabilize the economy of Ukraine. In addition to financial assistance from the IMF members, international and intergovernmental organizations will also be able to transfer funds to Ukraine. The Government of Canada has confirmed their intention to transfer CAD 1bn to the account.

We have also negotiated with our international partners the possibility of opening FX swap lines. So far, the NBU has signed a UAH/USD swap agreement for USD 1bn with Narodowy Bank Polski. We are now expecting decisions of European central banks on opening swap lines and other mechanisms to support Ukraine.

As far as the Stand-by Agreement is concerned, due the Russian invasion of Ukraine, our country has asked the IMF to close the current stand-by arrangement and allocate additional USD 1.4 billion in financial aid to Ukraine under the Rapid Financing Instrument (RFI). The IMF Executive Board approved the respective decision on 9 March 2022.

The RFI program has helped finance the priority expenditures and address the urgent needs of the balance of payments that are caused by the ongoing war.

Due to martial law, how will the NBU deal with upcoming Eurobond coupon payments for state banks and corporate issuers such as Naftogaz? Will the NBU be able to facilitate FX coupon payments?

The repayment of external debt lies within the purview of the government. As we are seeing, Ukraine is making full and timely repayments on its liabilities. In both public and private communication, government representatives have repeatedly emphasized that Ukraine will continue to repay its external debt and that the issue of debt restructuring is off the agenda. This means that Ukraine remains committed to servicing its commitments on time.

Could the NBU lift martial law before the war is over? Will new regulations be introduced for state banks?

The NBU’s operation is guided by the Constitution and other laws of Ukraine. Ukraine’s government has imposed martial law, which has been extended until 25 April. The NBU has amended its regulations so that the banking system can continue to operate during this period. The respective restrictions and principles of regulation are valid for the duration of martial law. Of course, we are trying to adapt our regulatory framework to a new reality, updating it depending on the situation in the country. For example, in late March, the NBU considerably expanded clients’ access to cash. We are also ready to gradually ease the FX restrictions.

As far as state-owned banks are concerned, we believe that they require the same business approaches as commercial banks. As a shareholder, the state’s presence requires that these banks fulfill a certain social function. State-owned banks ensure the operation of their branches, including those in the worst-hit and temporarily occupied areas, as do commercial banks. Our common goal is to provide maximum access for the entire population and business to the financial resources.

Since the early days of the war, the NBU has made a decision no to apply corrective actions for the violation of required ratios by banks (both state-owned and commercial). Our decision allows them to continue lending to the economy, as the banking system’s liquidity is currently sufficient.

It is important to understand that the war caused a significant decline in business activity, with many businesses seeing drops in revenue, destroyed production facilities in the affected regions, and disrupted supply chains. As a result, the loan repayment capacity of businesses and households has been seriously impaired. This will inevitably rub off on the banks’ capital and ratios.

When the war ends, the number-one task for the NBU will be to assess banking system assets. Only after that has been accomplished would it be appropriate to introduce new regulations.

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