Martin Wolf: Resist Russia’s blackmail over Ukraine’s debt

A man murders his parents and then begs for the mercy of the court as a poor orphan. This is a definition of barefaced cheek. We have a new one. On a flimsy pretext, a country seizes some of a neighbour’s territory and foments a civil war in the rest. But it insists that if a debt incurred by its ruined victim is not paid in full, it will veto the international assistance its actions have made vital.

This is how Russia is behaving towards Ukraine. That is barefaced cheek. It is also blackmail. It must not succeed.

The story is worse even than this. The loan in question – a bond with a face value of $3 billion (€2.64 billion) issued in December 2013 – was intended to sweeten the decision by Viktor Yanukovich, the subsequently ousted president, to reject an association agreement with the EU.

Today Russia apparently wants the international community to fund repayment in full of money advanced to cajole Ukraine into making an unnecessary choice of Russia over Europe. In reality, however, Russia wants to veto a planned $17.5 billion loan from the International Monetary Fund aimed at helping the country it has sought to ruin.

Legally, the IMF may not lend to a country if it is in arrears on an official loan. Russia is arguing that the bond, which it bought on terms favourable to Ukraine, was such a concessional loan. In effect, it wishes to use the leverage of this loan, to prevent its victim from being helped.

So what is to be done?

Russian propaganda

A starting point is to reject the justifications Russia feels and the reasons it advances for its hostility. Russian president

Vladimir Putin

seems to think that gangsters may stay in power for as long as they wish and use whatever methods they desire. We have no reason to agree. Russian propaganda suggests the government in Kiev is a bunch of fascists. But meeting

Petro Poroshenko

, Ukraine’s president, makes clear this is a “big lie”.

Russia argues that, if Ukraine became closer to the West, its own security would be threatened. But the West poses no military danger to this nuclear-armed country, while Russia is such a threat to its own neighbours. Many Russians seem to believe that history gives them ownership of Ukraine. We cannot accept such a claim. The Russian government believes it is entitled to seize territory by force. The West must reject this doctrine. The Russian government despises western beliefs that individuals have political rights and governments exist to serve and obey the people. The West must not concur. While rejecting such Russian attitudes, the West should seek a modus vivendi with it on all big issues, including, not least, Ukraine. But it should do so without sacrificing Ukraine itself.

The government of Ukraine inherited a dreadful legacy of more than two decades of gross corruption and incompetence. Ukraine had been more a carcass to be plundered than a country. Now it has suffered both invasion and civil war.

Despite a devastating economic shock, it has made progress. The freed-up exchange rate has stabilised. The external deficit has shrunk. And significant reform is under way.

However, an important contributor to further progress is debt relief. In August, after tough negotiations, Ukraine reached a deal with its private creditors on $19 billion of private debt.

Yields are to be sharply reduced, maturities prolonged, and the face value of the bonds reduced by 20 per cent. According to the IMF, this agreement has reduced Ukraine’s financing needs over the next four years by $15 billion.

Ukraine argues that Russia's bond should be regarded as a commercial debt, to be treated in the same way as other such debts. Russia insists its bond must be paid in full this December, when due, as an official debt. Adam Lerrick of the American Enterprise Institute has suggested what seems an intelligent compromise.

In essence, the plan is to compensate Russia for the favourable terms offered in the original loan (a rate of 5 per cent against a market yield of 12 per cent on two-year bonds at that time) and treat the loan in the same way as other commercial debts.

Minimal impact

For Ukraine, this compromise would have a minimal impact on debt sustainability. For Russia, this need mean no writedown in the nominal amount of the loan, as it insists, and an increase in the interest rate it receives from 5 per cent to 6.5 per cent – but a maturity extension of four to 12 years.

If Russia wanted a reasonable deal, it would accept this proposal, which meets its ostensible demands, notably a refusal to accept a writedown of face value. Almost certainly, it has no interest in any deal and so will reject it. That would at least clarify its true objectives, which are, almost certainly, to halt IMF loans and so foil Ukraine’s recovery.

If so, the West must not let it succeed. A way needs to be found to lend the money Ukraine needs. Russia cannot be allowed both to ruin Ukraine and hold a veto over efforts to rescue it. It should be made clear that such unco-operative behaviour merits further tightening of sanctions.

The Russian president may be difficult but he is rational. No doubt he would prefer a docile Russian satellite to an independent Ukraine, and a ruined Ukraine to a prosperous democratic and pre-western one. But the West should make clear that a price is to be paid for Russia’s obstacles to efforts at creating a functioning Ukraine. Above all, it must be determined to provide help. – (Copyright The Financial Times Limited 2015)