Quarterly Report-Consumers have the spotlight

​Below is a brief overview of our base-case, economic scenario for Ukraine over 2017-19. 

Domestic politics: A rather smooth ride. In our view, Ukraine's politicians will once again reject the idea of early parliamentary elections, as they did last year. PM Groysman's government will smoothly enter its second year in office in mid-April, as attempts to stage a vote of confidence in parliament are likely going to be sidelined. Geopolitics are still complicated with regard to the Minsk agreement, which is going to be stalled for another year. But back to Ukraine: PM Groysman tries to play nice with IFIs (international financial institutions) by adhering to the IMF programme, while at the same time actively seeking to boost the economy. This tactic will keep the occasionally rebellious Radical Party, which holds 21 seats in parliament, at bay. They will likely support the Groysman government when it counts.

Global economy: New risks emerge. New risks have emerged on the horizon. Developed-market economies-namely. The US and Eurozone-are at the epicentre. After nearly two years of a strong dollar, we see the US's new administration's desire to adjust the trade balance with surplus countries (like Mexico and China first of all, and then Germany and Japan second) as likely to fuel further strength in the US dollar. Instead of an orderly renegotiation of foreign trade, there is a risk that other countries will take countermeasures that would harm US exports instead of boosting them. In the Eurozone, there are tight elections this year-from the Netherlands to France and from Italy (yet to be decided) to Germany-which brings the possibility of surprises similar to those seen last year in the UK and US. Still, in our view, this year's base-line projection is that euro parity with the US dollar is rather unlikely, despite these concerns.

Ukraine's economy is visibly gearing up. Upward momentum is visible, and authorities will be keen to sustain it. Judging from quarterly, seasonally adjusted data, Ukraine's economy has been in recovery since 3Q15, ie, for the past year and a half. Our assessment is that 2016 full-year real GDP rose 1.4% YoY. The current trend data derived from seasonally adjusted series of monthly output volumes from key sectors of the economy-from industry to agriculture, and from trade to construction and transportation-yield a 2.2% real GDP increase in 2017. We project this to be followed by a 2.9% and 2.1% YoY increase in 2018 and 2019, respectively. The IMF programme is on track, as fiscal policy is targeting small, but still meaningful, primary surpluses. A credit revival should make the banking sector viable this year.

Domestic interest and foreign-exchange rates. Monetary policy is set to remain wary of price and FX risks. Hence, we expect gradual cuts in the NBU's policy rate-to 10% from 14%-over the year, alongside expected changes in consumer inflation. FX controls remain tight, as devaluation risks will surface from time to time over 2017. Our in-house analysis of the hryvnia valuation-based on CPI and PPI data from trade partners and their FX rates, past and projected-leads us to conclude that the UAH will become more positively misaligned due to, first of all, a spike in producer prices over 2H16. Still, we argue that there will be a positive balance between the current account and FDI in the coming years. This will help authorities maintain a managed flexibility of UAH. Hence, we expect the hryvnia's FX rate to be at 28.75 to 30/USD by year-end 2017 through 2019.