Speakers: Jakub Parusinski & Timothy Ash
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Jakub: Hello and welcome back to Power Lines: From Ukraine to the World, a podcast from Message Heard and the Kyiv Independent. I'm Jakub Parusinski. Each week we're going to be analysing the undercurrents of the war in Ukraine, bringing you analysis from across the globe to explain its context and consequences as the war continues.
In this, our final episode of our second season, we're taking a look at the big picture, an analysis of the macroeconomic challenges that Ukraine is going to be facing in the years ahead.
War is money in more ways than one. It takes a lot of resources to put troops on the battlefield and build tanks. But the economy is also one of the fronts of the war. Since the beginning of the full-scale invasion, Russia has tried to dismantle and disrupt Ukrainian economic activity, and Ukraine has withstood to a surprising extent.
That happened because it had done a lot of preparatory work. It had a banking system that was robust with a large role of the state that avoided bank runs. And with Western aid, actually a lot of Western aid.
Over the past two years, it has been astounding the level to which major Western economies have come together to support Ukraine. But things are looking a lot grimmer now. The U.S. aid package of over 60 billion is held up in Congress due to internal politics.
And for a long time, a European package of 50 billion euros was held up by Hungary’s Prime Minister Viktor Orban. After a long period of negotiations and finally some death manoeuvring, the EU is moving forward with its aid package.
In the words of Donald Tusk, “Europe doesn't have a Ukraine fatigue problem, it has an Orban fatigue problem.”
But Ukraine is in a very difficult spot right now. It's essentially living paycheck to paycheck with billion-dollar gaps to be filled every month from different sources. And looking forward, well, that's not going to get a lot better. We already have the prospect of a long war ahead of us, and after that, there's reconstruction.
So, where can we find the funds for that? One of the solutions, seized or immobilised Russian assets, there are hundreds of billions of Russian assets in Western financial systems that could be used to rebuild Ukraine.
Then there's also the question of internal politics in Ukraine. Over the past weeks, there’s been an increasingly visible feud between commander in chief Valeri Zaluszny, and President Vlodimir Zelensky.
On February 8th, Zaluzhsny was dismissed in his role, replaced by General Oleksandr Syrskyi, who previously served as the commander of Ukraine's Ground Forces.
You can read what you want into the smiling photo of Zelensky and his outgoing commander in chief, but the reality is that Zaluszny is one of the most trusted figures in Ukraine and a potential presidential frontrunner. Zelensky, on the other hand, is under more and more pressure. We’re likely to see the fallout from this play out further in the months and years to come.
But the story is actually much bigger than this. Ukraine needs a reset, both for domestic and international reasons. After two years of full-scale invasion, people are tired, and they need some kind of vision of how to move forward.
A report published by KI Insights on February two looked at the need and what a potential government reshuffle could look like. And it was confirmed a few days later by Zelenskyy himself that he was thinking very much about a reset, but that also has implications for the economy and for Ukraine's financial stability.
To get into all of this, I spoke to Timothy Ash. Timothy has been an economist for 30 years, working for some of the most prestigious banking institutions in the world over that time. His focus has been on the economics of emerging Europe, the Middle East, and Africa, particularly Ukraine, Russia, and Turkey.
You can find his writing on Chatham House, CEPA and his excellent Substack at tashecon blog. We started off by talking about how it is that Ukraine has sustained its economy so effectively over the past two years of war.
Jakub: Hi, Timothy. Thank you for joining us on Power Lines.
Timothy: My pleasure. Good to be here.
Jakub: So, maybe to start, we're just shy of two years into the full-scale invasion of Ukraine. Obviously two incredibly difficult years for the country, and I wanted to start with looking at the economy.
And so, basically the question is, how is it that Ukraine has managed to hold up so well? When we see sort of photos and videos of what's happening in Kyiv and major cities life keep going on, we've actually had 2023 results for a lot of companies that look relatively positive.
In some cases, they've actually even achieved some of their best results for quite a while now. How is that possible?
Timothy: Well, you’re right, absolutely remarkable in terms of the durability and resilience of the Ukrainian economy. Latest figures suggest that maybe the economy grew over 5% last year, which is pretty astounding in a war scenario.
And the fact that banks have worked, money has worked, the economy is continuing to function, infrastructure, the railways work better than in the UK, which is pretty extraordinary. Maybe not that surprising from a UK perspective, but basic infrastructure works, and that's extraordinary given the scale of the attacks from Russia.
If I think about the economy, I think it's a reflection of a few things. Firstly, the remarkable resilience and innovation of Ukrainians. I mean, we've seen that in the conduct of the war, the use of technology, but I think in general the countries come together, it's about survival. There's no option but to kind of carry on. And that's provided a lot of that durability. The coming together.
Secondly, the fact that the banking system works, currencies work, all those kind of things. I think that's partially a reflection of the reforms that were instigated after Euromaidan in 2015. I mean, one of the things I've highlighted, I've written over the recent years is that actually they did sort the banking sector out.
They reduced the number of banks, closed a lot of banks that were money laundering or corrupt institutions. It became a lot more resilient. Central bank itself was massively reformed.
It's a proper central bank. It's respected, it's trusted, it ran inflation targeting certainly before the full-scale invasion. It's a credible institution, which runs proper policy. I mean, the policy responses too, in response to the full-scale invasion were very, very orthodox, and credible.
And then finally, in the end the full-scale invasion had an enormous cost on the economy, no doubt about it. I mean, in ‘22, probably real GDP declined by about a third. That was a really significant hit, obviously.
Budget revenues suffered big drawdown; budget deficit increased to something like 20% of GDP export revenues. Obviously, a lot of big exporting entities, enterprises were forced out of production, weren't able to export. So, there's a big hit, obviously, to the trade position and the current account position.
But really critical has been the provision of Western financial support, not just military support, but the budget and balance of payment support's been running around 40 billion a year now for the past two years.
And that's filled budget financing gaps. It's helped support the balance of payments. It's helped the central bank build reserves to just around $40 billion, which is close to record highs.
That's provided stability for the exchange rate. That's really important in terms of inflation. But also, on the fiscal side, the fact that they haven't had to resort to monetary financing of a deficit. Obviously, they've not been printing money, but they've been able to soldiers wages, pensions, public sector salaries, all those kind of things.
That's certainly helped avoid a devaluation hyperinflation spiral. It's meant that the government has functioned and worked, and the economy generally has worked.
So, it's a combination of those three, I would argue, reforms instigated since 2015, the innovation shown by Ukrainians and bravery, but also the Western financial support that has been forthcoming, certainly in the last two years.
Jakub: Thank you. I think that's a fantastic overview, and it's really astounding to see sort of the transformation that Ukrainian banking has gone through.
But I think it's also really interesting what you mentioned about the backend of sort of the banking system that's gone through a major cleanup. Back in the day, sort of before Euromaidan, there was a lot of non-performing loans, a lot of corruption, a lot of related party sort of transfers of wealth.
Now, that's all been relatively cleaned up. Looking forward a bit, because in one sense, Ukraine has gone through these two years, very battered, very bruised, but continuing to function as a state, as an economy. And obviously one of the things that is in the back of a lot of people's minds is how do you rebuild the country?
Looking forward, what do you see as the sort of major challenges? And I'm thinking about things like, for example, the demographics. A lot of the labour force has left. How do you kind of manage around that?
There's actually quite a bit of buildup of depth that continues to be issued. And as far as I know, it's coming in at a relatively high interest rate, all things considered. So, how do you see that journey going forward?
Timothy: Well, lots of issues there. On the one part, I am relatively optimistic in terms of once the war ends, I think Ukraine is going to be a really exciting recovery and reconstruction story.
The base is very low, as I mentioned, real GDP, around 30% was lost. There will be a big reconstruction spend. A lot of Western finance official money is going to come into the country. There's mention of use of frozen Russian assets as well.
And others, the innovation that I mentioned earlier, in terms of allowing the economy to endure during the invasion, that innovation, I think will be applied to the recovery and reconstruction.
I've referred to it as the state of Israel kind of moment for Ukraine, maybe not state of Israel as reflect to the Gaza conflict at the moment. But the fact that you have a country that has no other option, but to innovate to survive and develop to survive.
And that for me provides a really positive recovery story. Also, one reason why Ukraine hasn't developed in the last 30 odd years was the lack of an EU accession perspective. Unlike countries like Poland, Czech Republic, all those kind of countries.
I think we now actually have that. I mean, I think there is firm commitment from the EU to pull Ukraine along the EU accession path. Obviously, there's no date, but I think for international business, that's really, really important.
The fact that the West or Europe is committed to bring Ukraine in, it will act as a blueprint for reform. A lot of the problems around corruption, rule of law, all those kind of things that were big problems in the run up to the invasion, they will begin to be ticked off and addressed in that accession process. So, that's kind of really positively encouraging.
Issues for me are, as you mentioned, the return of the population. They need security, they need basic public services, hospitals, schools, roads, all those kind of things need to work. It's going to be a challenge.
But the other issues I would say are financing it and then the institutional framework around recovery and reconstruction. I am not too sure that — I mean, you're probably going to ask me questions further on, but in terms of the state of Western financing, I mean, what we know is the losses incurred by Ukraine in terms of the economy.
Obviously, there was the World Bank report some months back. I think it estimated $411 billion worth of losses by Ukraine. That's building, we could imagine total cost to Ukraine of between 500 billion and trillion dollars when the war eventually ends.
The reconstruction spend, obviously it's a relatively small economy, $200 billion in the run up to the invasion. This question marks about absorption capacity. How much of reconstruction money can Ukrainian solve?
But the way to think of it in my mind is the cost of supporting Ukraine during the war has been about a hundred billion dollars a year. About $40 billion of budget support and about $60 billion of military support from Western countries.
I would think in peacetime, when you think about the recovery, it's going to be something of the order of 50 billion a year, I would think of the need for reconstruction and continuing budget and financial support.
They're big numbers. And I think, I'm a little bit unsure still about how those kind of longer-term commitments are going to be put together.
Jakub: So basically, if I'm sort of to rephrase it slightly, so the reconstruction would probably look like a decade of 50 billion level sort of investments in rebuilding the country, developing new businesses, new industrial capacity, et cetera.
So, it's sort of like, it's not that all of that money is going to come in at one moment, but rather we're talking about a certain period of time during which the country is essentially rebuilt piece by piece.
Timothy: Look, it's finger in the air stuff, no one really knows. My finger is as good as anyone else's. I would think that's the size that I think … obviously 50 billion a year, the economy will be growing over that period. It's a large chunk of GDP in the early years, as later years as you see real appreciation, probably strong levels of real GDP growth.
It will decline as a share of GDP. But I think that's the order that we should be thinking of in terms of this particular project. And as I've written and argued, I think Ukraine's successful recovery and reconstruction should be the number one strategic priority of the West.
I covered the region for a long time. I started off as a Soviet studies person, then I moved into transition economics. So, I followed the development of emerging European economies in that move from plant to market in the early 90s, and then the EU accession drive.
I think this project is as important as the transition from plant to market that the West helped to finance in the period ‘89, ’91. It's really important. Its economy is put back on its feet, so it's able to fund its own defence, which is a frontline for the West. And it needs to be taken seriously.
So, we need to get this right. It's a big investment from the West. It's obviously a big investment also from Ukrainians. And we need to be really crystal clear in, again, the institutional framework around it, how we fund it, what are the priorities, what the Ukrainian economy should look like going forward.
I mean, obviously the traditional industries that dominated before the invasion, all of those are no longer there. I mean, a lot of industrial capacity, old industrial capacity has been destroyed. It's a blank piece of paper in many respects. And it's an opportunity, I think, to rebuild Ukraine's economic profile.
Jakub: That's also quite an interesting question. So, you mentioned that there's one version of this, which is essentially when the war ends, I think there's also probably several shades of grey in between that, where we have essentially a ceasefire or people are talking about a Korea scenario where there's a chunk of Ukrainian territory that continues to be occupied by Russia.
But essentially the sort of the front lines are more or less frozen. And there's a buildup of Ukrainian military capacity, but also a reconstruction that is sort of anchored along a Israel/Korea model, which might not be the thing that a lot of people are hoping for, but it's actually not that bad if you think about it.
Both countries have managed to build, not looking at the past, sort of several months in Israel. They've managed to build quite successful economies, societies, countries, in both cases. So, is that something that is also being considered from an investor perspective?
Timothy: Look, I mean as unfortunately Ukrainians know, I mean, the invasion didn't start in February ’22. I mean, obviously Russia's interference in Ukraine, you could argue goes back decades.
But actually, think about the annexation of Crimea, then the intervention in Donbas in 2014, 2015. And you had Minsk I, Minsk II, and the Ukrainian economy continued to function, investment happened.
If you think from a fiscal perspective, Ukraine restructured debts in 2015, and from a starting point in 90% debt, GDP went down to 50%. Foreign investors bought euro, Ukrainian Euro bonds in that period, post Minsk I, Minsk II before the invasion.
They were willing to invest in the Ukrainian sovereign story, they were willing to invest in corporates and banks. There was relative security across much of Ukrainian.
I think, if we are imagining a scenario like a North/South Korea scenario, or in Israel, still the vast majority of Ukrainian territory will be in the hands of the Ukrainian government.
I mean, Ukraine as is at the moment, I forget the numbers, but let's say something like 15, 17% of Ukrainian territory is occupied, but the vast bulk of the country is still in Ukrainian government hands and is relatively safe.
And I think there will be lots of investment opportunities and I think people will come in as long as there's relative security, there is strong Western financial and military backing to help its security. And there is this EU accession perspective and also a reform perspective.
I mean, I think what's clear is Ukrainians have shown great bravery in fighting in their defence. And our defence, when the war ends or reduces an intensity, they'll want a different Ukraine.
They'll want a Ukraine that's not dominated by oligarchs, where the rule of law works, where European values are in effect, and Ukraine's be a better place to live. So, I think there will be a drive for reform that's certainly going to help inward investment into the country.
Jakub: So, we've danced around the sort of the elephant in the room, I think for a while now, which is sort of where the money's going to come from.
So, I remember a year ago, half a year ago at the London Recovery Conference, there was a lot of talk every time you talked about Ukrainian recovery, people like Andrew Forrest who sort of launched this idea of a Marshall plan for Ukraine and I think committed half a billion of his own funds to sort of set it up.
Organisations like BlackRock, Goldman Sachs were mentioned. Now that doesn't seem like it will be the first line of capital that moves in. So, there's a question of how do you find funds to essentially start kick-off? Where does sort of the first 50 billion come from? Or where does a portion of that at least comes from?
One of the options of course that is being discussed is seizing Russian assets or paying interest off of these to Ukraine. Is that sort of where the first sort of block of capital is going to come from in your view?
Timothy: Yeah, I mean, I was very critical of the London Recovery conferences and the Lugano conferences. There was a lot of focus on the private sector. The private sector will do the heavy lifting and I think that was a bit disingenuous, dishonest from Western governments.
I mean, I'm in the private sector. I work for a big asset manager. The private sector will not in the early years provide that level of financing because there is the long track record of difficulties of private investments, foreign private investment into Ukraine, in the run up to the invasion, rule of law, governance, all those kind of issues.
And they will be slow to change and slow to rebuild foreign investors' confidence. Despite the fact that I've said that this is a huge opportunity. I think private investors will be pretty cautious.
And also, there's obviously their security concerns as well. There will be some private investment. It will be cautious, think more like single digits in terms of billion dollars a year, but nowhere near 50 billion.
And I think the reality is that Ukraine's defence, the defence and its victory in war, and then successful recovery, I mean, we should think of it as a Western public good.
This is in the West's interest to make sure that Putin's aggression fails. Putin is defeated in Ukraine. Ukraine wins the war and becomes a buffer or a — though it's certainly the front line against future Russian aggression.
So, it should have a strong economy, a strong military able to defend itself and help us. So, that costs money. I mean, that's the reality. And we need to invest in that.
Now, obviously this week we've had some good news in terms of Viktor Orban’s efforts to block the 50 billion euros of EU financing for Ukraine. That's 50 billion euros of support committed for the period ‘24 to ‘27. So, over a four-year period that's now been signed off, that's encouraging.
But unfortunately, the 61 billion U.S. support package is stuck in U.S. Congress, and it doesn't look likely that that is going to be approved at this point in time anyway.
The harsh reality, I think is the politics of the world at the moment is as the global cost of living crisis, it's very hard for Western governments to sell the story to their own electorates, to those taxpayers that we need to be paying 50 billion a year, well, actually a hundred billion dollars a year in war, in 50 billion likely dollars a year in peace to help Ukraine.
I mean, that's just the stark reality. Perhaps we can sell the message better. We need to go out there and we need to tell our taxpayers that this is an investment in our defence. If we don't invest in Ukraine, kleptocracy/autocracy will win. Our whole system of government will be on threat. I think we need to do that anyway.
But at the moment, the real politic in Western democracies is it's very difficult to get taxpayer sign off, for those kind of numbers. And I think the only realistic source of providing that scale of financing for Ukraine is accessing the estimated 300 to $350 billion of Central Bank of Russia reserves that are immobilised in our jurisdictions.
In fact, I think it's political suicide for Western liberal market democracies to actually not use those resources to fund Ukraine's defence and then recovery and reconstruction, but instead think that they can go to taxpayers first and basically take money from Western taxpayers to pay for Ukraine's defence and then recovery reconstruction and not go after frozen Russian assets.
It's almost as though there's a lot of debate on frozen Russian assets. And again, we're probably going to go into that a little bit later in the podcast. But there's a lot of talk about we're undermining property rights, or we're in Western jurisdictions by doing this, and that Russia's property rights are being illegally compromised.
I mean, that is an utterly ridiculous line of arguments in my mind. I mean, Russia has clearly invaded Ukraine. It's violated Ukrainian property rights. And actually, if our governments decide that they're going to write a big check spending Western taxpayers’ money before tapping frozen Russian assets.
I mean, what it actually says is that our governments care more about Russian property rights, care about defending the property rights of the Russian state that's conducted what's invaded Ukraine. It's conducted war crimes and genocide against Ukraine.
And actually, they care more about Russian property rights than the property rights of their own taxpayers. I think it's just extraordinary. But anyway.
Jakub: It’s absolutely ridiculous. Yeah, no, so that part is, I think, quite ridiculous and probably, well at least it feels like that argument is slowly being eaten away by a lot of counter rhetoric, counter examples.
There's another one argument that is also on a moral level is probably quite clear, but legally is a lot more thorny, which is the assets of Western companies in Russia.
And I'd love to hear your opinion to what extent it's valid, but this argument that if you essentially say that the Russian assets are compensation for losses incurred due to the full-scale invasion, well, some of those losses are actually companies that continue to operate in Russia or have had their assets seized or something like that.
So, how can we essentially support Ukrainians without having the money ending up in Danone or Pepsi?
Timothy: Yeah, well look on the frozen Russian asset issue, there's lots of counter arguments. I would turn the whole arguments on its head and the starting point I would say is those people arguing against using frozen Russian assets I would ask them, if we don't, how are we going to fund Ukraine's recovery and reconstruction and defence in the war?
And what happens if we fail to adequately finance its defence. I'd say, if we fail to fund Ukraine's defence and recovery, Ukraine will fail. Russian tanks will be on the border of Poland. There'll be a huge outmigration of Ukrainians, tens of millions will leave.
That will create huge social and political problems in Western Europe. We'll have huge defence spending because of that. We simply can't contemplate failure. So, we have to make sure Ukraine wins. As I've mentioned, I don't think the Western private sector will adequately fund Ukraine's recovery reconstruction.
I don't think there's political appetite in Western market democracies to fund the 50 a hundred billion dollars of recovery reconstruction. We just simply have to use the 350 billion. There's no other choice.
Now, in terms of the arguments against, lots of things have been used, as you mentioned, there's concern that if we seize frozen Russian assets in Western jurisdictions, Russia will go after Western assets, Western companies’ assets.
In Russia, I would argue that's already happening. Putin is already forcing many of those companies to sell to the Russian state to exit at cents on the dollar. I would also make an argument that in the end, these Western companies that are operating Russia, they're now whinging about the risks to their assets because we're going after frozen Russian assets.
Now, these are big boys. They made their own decisions. It was crystal clear what kind of regime the Putin regime was as far back as 2008 when Russia invaded Georgia.
Remember, there's a lot of focus on whether or not Russia would use weapons of mass destruction in Ukraine. It already used weapons of mass destruction twice in the territory of a NATO member, the Salisbury and Litvinenko.
And yet these Western companies thought it was okay, despite the clear warnings of their own governments to continue to operate in Russia, we should not be adjusting our national security interest and strategy to bail out Western companies that basically made bad investments in Russia. That's the reality.
So, I don't buy that argument. The other arguments are the reserve currency argument that if we go after frozen Russian assets, we move from immobilisation to freezing, to seizing and then allocation to Ukraine, it will send a very bad signal about the safety of our financial systems for other authoritarian regimes.
So, for example, you possibly could argue that the Chinese or the Saudis or whatever, the Gulf States would think twice about keeping their significant foreign exchange reserve assets in our jurisdictions.
Arguing against that, I would say, well, the signal has already been sent with Russia's assets immobilisation. Russia is probably not going to get the funds back. So, if you are a authoritarian regime and you've probably already moved your assets out of Western jurisdictions-
Jakub: And they're fine, people still use the dollar, and it hasn't lost that much strength.
Timothy: Well, the reality is there is no alternative. I mean, if the G7 act in unity and say, yes, we are going to freeze and seize and allocate to Ukraine, then China, for example, has a huge FX reserve position. There are simply no other international jurisdictions where it can dump its reserves, aside from Euro, dollar, sterling, Aussie dollar, CAD dollar. It has no alternative.
I mean, often these regimes don't really trust each other very much. I mean, I can't see the Chinese deciding to put their reserves in Russia, India, China. There are lots of tensions within these countries.
So, simply they have no alternative. And I think a really strong argument against this, look from a counter argument, freezing, seizing, sends a very strong signal to regimes or authoritarian regimes globally, that they should not do things like invading other countries, convicting genocide and war crimes.
They should behave themselves, and if they behave themselves, their assets are not under threat. So again, very weak arguments. In the end, if we want Ukraine to have a successful recovery, we have to simply use these assets.
Jakub: Yeah, I mean, it is an extraordinary threshold that Russia has crossed as a result of which its assets have been immobilised. This is not the kind of thing that, if you are, let's say, somewhat authoritarian, not quite the liberal Democrat, but you haven't invaded a neighbour, this is not something that you stumble into, like it's a major kind of policy decision.
They also knew what they were doing. So, this isn't sort of something that I think would be applied quite widely. I think Russia is a unique case in which assets are seized.
Timothy: Well, I think so. I mean, Saudi Arabia would probably be a good-
Jakub: Next in line.
Timothy: Well, but actually there's a different relationship between Saudi Arabia and the Western alliance. I mean, it's still clearly a partner. It's a partner in supplying obviously covered products to Western markets.
It's a huge market for Western defence goods. I think that the bar perhaps in Saudi Arabia would be far higher than Russia in terms of freezing assets. So, I just do not think that the dollar and the Euro are under threat because of this action.
Jakub: So, I'd love to talk a little bit about also what has been done in terms of sanctions on Russia, but maybe before that just to dive on this idea of seizing and using Russian assets in terms of what that could look like.
So, one story is obviously transferring these assets to Ukraine. I think that's something where we're still relatively far off from in terms of where the discussions are now amongst Western leaders.
The other option is essentially to have the interest of these Russian assets be transferred to Ukraine on an ongoing basis. Are we essentially sort of coming up with the idea of building an endowment for Ukraine that would help support the country over the longer period?
And is this a way to maybe insulate Ukraine from political risk, including Trump potentially becoming president in sort of a year's time?
Timothy: Well, I've been arguing for at least 18 months that frozen Russian assets are the only option for funding Ukraine's defence, and then successful recovery. And it seemed like we were getting nowhere until a few months ago.
And then suddenly things changed. I think things changed because there was recognition finally amongst Western political leaders that taxpayers won't fund the huge cost.
And obviously the prospect of Trump winning the U.S. elections in November. Then assuming office, I think in January 25, I was at Davos recently, and one theme was insulating Ukraine against Trump.
So, I think there's a realisation that if the frozen Russian assets can be earmarked for Ukraine, that provides long-term financing assurances for Ukraine.
Now, I would argue that we need to go after the underlying assets. Obviously, Europeans have got cold feet about that. They've been talking about using the returns or attacks on the returns of monies in Euroclear, particularly in Belgium, France, all these kind of places.
And the problem with that is, unfortunately it doesn't really touch the sides in terms of what Ukraine needs. I mean, the Euroclear profits, I think last year were around $4 billion, as I mentioned.
At the moment, the cost of Ukraine to the West is about a hundred billion dollars in war, and it's going to be 50 billion in peace. So, $4 billion is not enough. I worry that European leaders or European bureaucrats and lawyers are just using this as a wheeze to buy time to avoid doing what they need to do, which is actually go after the underlying assets.
And I don't really see the difference actually between seizing the underlying assets and seizing the interest on the investment’s income of those assets, frankly. If you're going to do it, you may as well go after the underlying assets.
Now you can think of some innovative solutions. Obviously, those assets are at the moment invested in high grade, low yielding instruments like U.S. treasuries or bonds or whatever. You could think outside the box. You could maybe invest them in a portfolio of EM assets that could yield 10% a year.
So, if you think about it, 350 billion, 10% a year, 35 billion a year. You could even think of something whereby Ukraine could issue its own recovery bonds. Russian assets could buy those or the people holding or managing those assets at the moment could buy those on behalf of the Russian states. If you get my drift.
Russia's underlying property rights would not be undermined. They would still hold the underlying assets, which in this case will be Ukraine recovery bond. The advantage for Ukraine, it would get big chunks of recovery and money.
It could even pay interest back to the accounts where Russian assets are held. And ultimately, if there's a peace deal and eventually a reparation agreement is made again, they could be a source for that.
So, we just need to think outside the box. And we always operate by — rules, where Russia, Putin always takes the gloves off. If we're going to win this war, we have to be clever than Putin.
And the European approach of just going after the low yielding 4 billion, it is just not enough. Unfortunately, we are two years into this, and some of us, like myself, have been arguing that this project is so important. Ukraine needs some kind of Ukraine recovery institution that will manage the whole process of recovery, including the funds from frozen Russian assets.
And we aren't really gone anywhere on that. I mean, as I said, most important projects since ’89, ‘91 . If you remember the big focus on transition planter market, the European Bank for reconstruction development was created specifically for that project.
It was so important, this transition from plant to market. We created this development institution, EBRD. It's been very successful. It's been so successful that it's diversified, its activities now beyond emerging Europe to Africa and all these other places.
It's kind of grown out of its original mandate. And actually, some people said EBRD should take up this role. I don't think so because its shareholder structure is too broad. It includes Russia, its mandate is too broad now.
We need a specific institution that absolutely it’s focus is entirely on Ukraine's recovery reconstruction. By creating such an entity, I think you send a really strong signal of the West commitment to this project.
You create a very strong leadership of it. It will be a joint entity, partially owned by G7 donors, but partially owned by Ukraine sovereign wealth idea. You can imagine that eventually it would be a hundred percent owned by the Ukrainians, let's say when they join the EU, it would become their entity.
It can be a partner for private investment into Ukraine. It will help drive reform because it's got leverage, because it's got strong funding, it can borrow on its own behalf. And I just don't really see much thought into this.
I mean, it's quite extraordinary. We have the military Ramstein, we really need an economic financial Ramstein for Ukraine. And I strongly think that we need an institution that is going to manage this process.
Jakub: First of all, let me just maybe briefly react to the idea of having the Russian assets being used to buy Ukrainian recovery bonds. That sounds absolutely sort of brilliant and historically kind of justified.
There's a question of whether these should be interest bearing at all, but certainly the idea of essentially having Russian money, Russian assets fuelling Ukrainian recovery and then hostage of it.
So, I imagine that they would immediately lose their rights to this asset should there be any further aggression on behalf of Russia against Ukraine? I mean, frankly, I don't see why couldn't get off the ground at least partially.
But yeah, in terms of the financial Ramstein, and for our listeners, a Ramstein in this context basically means a series of conferences to coordinate aid to Ukraine. What is holding that back?
Timothy: I just think it's about leadership. It's about joined up thinking, it's about Western leaders or a Western leader seizing the initiative and saying, publicly, “This project is so important, we need to do this.”
And they need to hire big characters, people to lead such an entity that have drive, vision. In the end, I guess it's the U.S. that has to lead this and make it happen. So, I think we need an additional strong signal, strong message from western liberal market democracies that this project is critical.
And I think we can only do that by creating, I would say a sovereign wealth fund style entity that's co-owned by G7 and Ukraine. And its responsibility is everything to do with Ukraine's recovery and reconstruction.
Jakub: No, that sounds quite valid. I mean, it feels like the EU is gradually gearing up to take a more leading role in supporting Ukraine and potentially planning for a Trump presidency where essentially the role of the U.S. … well, we don't know. Trump is nothing if not unpredictable, but most likely wouldn't be good for Ukraine.
And so, it feels like the EU is slowly moving in that direction, but obviously it's not an organisation that moves fast, that is driven by vision, it's driven by process, and that feels like something that is not quite the right fit at the moment.
Timothy: Well, I think the question is, is Europe able to fill the financing gap likely left by a failure to get the $61 billion approved in U.S. Congress, and then likelihood that Trump will pull away. And unfortunately, I think it's not.
And also, we have to accept, Orban failed to stop the 50 billion euros. But we have elections coming up in the European Union and that could change the whole political setup in Europe.
So, we need to Trump-proof Ukraine's financing and we need to basically do the same in Europe and that example, there's just no alternative but frozen Russian assets.
Jakub: Yeah. And so, just to drill down on the timing here. So, Ukraine is going to receive the 50 billion Euro package from the EU. There's a question about how quickly that can get over to Ukraine, which I think is in quite a difficult financial situation at the moment. But looking at the 2024 budget, is there any way to get around if the U.S. package doesn't come in?
Timothy: Well, no, because the 50 billion is a four-year program. So, that's 12, whatever you want to call it, 12 and a half, et cetera, for this year I'd imagine. I mean, it has 40 billion reserves it could possibly try and issue more domestic debt. It could print money, but that is inflationary. It puts pressure on the exchange rate, it risks macro instability. They need to fill those financing gaps.
Jakub: So, I wanted to ask about the strength of Russian sanctions and whether they are strong enough to do the job. What are the big things that we're missing? Should they be ramped up going forward?
Timothy: Yeah, sanctions. Look, sanctions are difficult. I mean, that's the reality. I mean, countries lodging sanctions want to make sure that the impact on the target is more than the backdraft to countries lodging the sanctions.
So, they're very, very complicated. We're in a global economy where there's lots of interplay and unintended consequences of going down a particular route. And they're not a silver bullet. They're only one part of a broader set of policies that aim to support Ukraine and undermine Russia's ability to wage war.
I think we've gone much further than I think anyone would ever have expected, actually. I mean, the energy sector have been sanctioned that no one really expected that swift on banks.
I think a lot of the focus now should be just tightening what we have already. I mean, obviously there's a lot of focus on third countries that are obviously helping Russia avoid sanctions.
I think there should be a ramp up in secondary sanctions, a warning to those countries of what happens if they're found out. So, in the end, I think there's been a change. I mean, if you think initially sanctions were imposed after annexation of Crimea, it was about getting Russia to change its actions.
I think now the reality is Russia has revealed itself to be a major threat, a military security threat to the West. We need to weaken Russia economy long-term because we need to reduce Russia's ability to regenerate its conventional military capability. That's a threat to us.
So, whatever happens in Ukraine now, I don't see a significant reduction in sanctions on Russia unless there's a regime change in Russia itself. So, they're going to remain in place for a long time. I think ultimately, they are working to undermine and weaken Russian economy.
A lot of focus on the fact that Russia, the IMF, have recently just adjusted its growth forecast up for Russia this year. But a couple of percentage points of growth is hardly a reflection of a booming economy.
It's surviving. Putin's had to make difficult choices, guns versus butter, eventually that will weigh on Russia's ability to conduct war long-term. It will weigh on his political support domestically. And one hopes that ultimately, it will change the decisions being made in Moscow.
There is one really interesting idea that I am quite supportive of, and it's going to zero … well, it's a hundred percent sanctions in a way. It's the West suggesting that in a period of couple of years down the line, or you set a date, two, three years down the line, you signal to your business that all trade with Russia will be subject to sanctions unless special designations are arrived at.
And obviously it's focused on dual technology stuff. That has obviously been a big problem. But you force Western business to explain exactly why they need to do business with Russia. Is this product so critical that we have to do it?
And I think by doing that, by setting this date for zero trade with Russia in effect, you will further encourage international business to get out of Russia. Continue to squeeze the Russian economy.
But with the designations, it still allows you in critical areas to continue to have access to Russian whatever it is, commodities or whatever where you absolutely need it.
But I think it reduces the ability of Russia to get some of those dual use goods that it's been using to continue to manufacture all this high-tech stuff in defence sector.
Jakub: Yeah, no, that sounds really interesting in terms of where this all can go. It feels like something that would be quite difficult for political leaders to — especially for the EU, that would just be so difficult to go through. But yeah, ultimately, I mean, you need to show that there's consequences for the actions.
So, turning to the topic of the week, President Volodymyr Zelenskyy decided that he wants to dismiss the Head of the Armed Forces, Valerii Zaluzhnyi by all accounts, did not agree to resign of his own volition. It looks like Zelenskyy wants him out, but is struggling to find a replacement.
But in any case, what we're seeing is potentially quite difficult battle on the Ukrainian domestic political scene. And I think more broadly a resurgence of domestic politics.
In a way that is not surprising. I think people are maybe overestimating the ability for a country that is under war, that is a democracy where people can voice their opinions relatively on challenge to stick to a consistent political line for two years.
So, I think it was always a little bit too optimistic to assume that it would be completely untroubled waters throughout the whole period of time. But we do have a major conflict between arguably the two most important people in the country.
How is that kind of political risk factoring in to I think first of all, discussions with potential financial partners, bond holders, Western leaders, G7 in terms of pulling together financial resources to fund the Ukrainian ongoing needs and then recovery.
And secondly, more broadly, how is that likely to impact perhaps private capital and the broader set of stakeholders?
Timothy: Well, it's a bit difficult for me to comment on what's going on domestically on the politics side in Ukraine because I simply don't know. I'm not in the corridors of power where that's happening.
I mean, obviously, Ukraine's remarkable defence over the last two years has partially owed to the fact that you have seen unity. The opinion polls show strong support for Zelenskyy, strong support for Zaluzhnyi.
One has to be worried if we are in a scenario where that unity is under threat. We want the country to pull together to ultimately defeat Putin. If we're going to see squabbling and infighting within the elites, that's really disappointing, obviously.
But as you mentioned, I mean, Ukraine is a democracy. The elections are scheduled for this year. One obviously would like democratic process to play out, but it is a war.
So, I mean, you could understand why elections may not necessarily happen. All the territory is still occupied by Russia. A lot of Ukraine's population are not in a secure situation, can vote. Lots of soldiers are obviously away from their places of home or origin, whatever. And they're unable to vote.
It's challenging, but it's definitely a concern. I mean, one would hope that we don't see, or these kind of arguments are kind of resolved, that we don't see very public squabbles and focus continues to be on ensuring a victory in war and then focusing on what we need to do or what Ukraine needs to do to ensure a successful recovery and reconstruction.
Jakub: Absolutely brilliant discussion. Timothy, thank you so much for joining us on Power Lines.
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Timothy: My pleasure. Thank you.
[Speaking Foreign Language]
Jakub: Thanks so much for listening to this season of Power Lines: From Ukraine to the World. A big thank you to Timothy for his time today and to all of our amazing guests across the whole season.
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