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I N D E P E N D E N T I N T E R N AT I O N A L E X P E R T S C O M M I S SI O N

A R E F O R M P R O G R A M

F O R A N E W P R E S I D E N T O F U K R A I N E

Co-Chairmen: Anders slund and Oleksandr Paskhaver


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Tableof ConTenTs

Members o the Independent International Expert Commission 5

Reorm Priorities or Ukraine in 2010 6

Introduction 7

Chapter 1 A New Wave O Reorms Is Critically Needed 10

Ukraines Reorm Experience 11

Goals and Priorities o Reorms 13

Deense o Reorms: Establish a Reorm Commission 13

The Anti-Crisis Policy: The IMF External Anchor or Fiscal and Exchange Rate Reorms 15

Chapter 2 How to Reorm the State 17Improvement o Parliamentarism and Legislative System 17

Administrative Reorm 18

Reorm o Local Sel-Governments and the Administrative-Territorial System 20

A New Sense o Public Service 21

Judicial Reorm 23

A Realistic Anti-Corruption Program 25

Constitutional Reorm 25

Chapter 3 Macroeconomic Policy: How to Stabilize Ukraines Finances 27

Causes o the Economic Crisis in Ukraine 27Toward Ination Targeting and an Independent Central Bank 28

Balance the Budget in the Medium Term 30

Reorm o the Financial Sector 31

Chapter 4 Microeconomic Policy: How to Improve the Business Environment 35

External Anchor: Advance on the World Bank Doing Business Index by 40 Points! 35

Deregulation: Key to Economic Growth 35

Privatization Must Be Revived 38

Improve the Management o Public Property 40

Level the Playing Field or Competition 42

Chapter 5 Reorm o the Energy Sector 45

Gas Sector Reorm: Crucial or Success 47

Electricity Reorm 49

Coal Mining Reorm: Easy and Benecial 50

Chapter 6 Social Sector Reorm: Achieving Eectivenessand Financial Balance 52

Reorming the Pension System 53

Transorming the Social Protection System 54Reorming the Health Care System 54

Modernizing the Education System 56


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Chapter 7 Accelerated European Integration 58

Integration with the European Union: Another External Anchor Beneting Ukraine 59

Conclusion o a Deep and Comprehensive Free Trade Agreement 60

The Future: Visa-Free Travel 62

Human Capital Development 62

Coordination o European Integration: At the Highest Level 63

Acknowledgements 64

Appendix 1 International Independent Expert Commission or Ukraine:Reorm Proposals 66

Reerences 76


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5

Proposals or Ukraine: 2010 Time or Reorms

MeMbersofThe IndependenT InTernaTIonal experT CoMMIssIon

Anders slund, co-chairman

Torbjrn Becker

C. Fred Bergsten

Ihor Burakovsky

Oleksandr Chalyi

Edward Chow

Marek Dabrowski

Mikhail Dmitriev

Sergei Guriev

Ihor Koliushko

Ella Libanova

Vira Nanivska

Irina Paliashvili

Oleksandr Paskhaver, co-chairman

Volodymyr Saprykin

Olga Shumylo, co-ordinator

Marcin SwiecickiOleksandr Todiychuk

Aleh Tsyvinski

Lidia Verkhovodova

Johannes de Beauort Wijnholds

Charles Wyplosz

Valentin Zelenyuk


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6

Independent International Experts Commission

reforM prIorITIesfor UkraIneIn 2010

ByInternational Commission o Independent Experts

This is an action program or the rst year o a new presidency. Ater the presidential elections, Ukrainewill have a unique opportunity to implement reorms that will lay oundation or sustainable economicgrowth. The new presidential mandate, the shock o a recent severe economic crisis, and popular dissat-isaction with the status-quo create ideal conditions or successul reorms. Our three main conclusionsare: Ukraine needs (1) new organizational capacity or reorms, and (2) prioritization o reorms, and (3)utilization o international organizations as lighthouses to guide its reorms.

Our Commissions rst conclusion is that Ukraine needs to establish new capacity to carry out re-orms that is independent o the agencies to be reormed. We recommend creation o a Reorm Com-mission at the Cabinet o Ministers, headed by a Deputy Prime Minister with overarching authority. TheReorm Commission should have its own budget and a single goal: to design and implement reorms.

Together with the European Integration Secretariat, it should lead Ukraines reorms rom the Cabinet oMinisters.

Our second conclusion is that Ukraine needs to ormulate clear priorities or reorms. Such priori-ties (listed below) have to be are either qualitatively or quantitatively measurable. First things need tobe done rst. Measurability is key or accountability. Ukraine must: (a) improve the eectiveness o thestate, (b) achieve nancial stability, (c) allow private enterprise reedom on the market, and (d) make so-cial policy more eective. Our selection is based on experts views o priorities that are also politicallyeasible within one year.

Our third conclusion is that it is necessary or Ukraine to use its international leverage or externalguidance to break through the domestic logjam on reorms. The Commission has identied three an-

chors that can guide Ukraine to realize its commitment to its reorms: The IMF, the European Union andthe World Bank.

Ukraines ten top priorities or 2010 are:

Carry out gas reorm!

Make the National Bank o Ukraine independent!

Move toward ination targeting!

Cut public expenditures!

Undertake comprehensive deregulation o enterprise!

Conclude a European Association Agreement!

Get privatization going again!

Legalize private sales o agricultural land!

Adopt a Law on Public Inormation!

Complete the modern commercial legislation!

The International Commission o Independent Experts was established in September 2009 to drat an action program or Ukraine ater the presidential elections. The initiators were Anders slund and OleksandrPaskhaver, who have been its co-chairmen. The committee is comprised o prominent international and

Ukrainian academics, policymakers, and lawyers. The work o the Commission has been nanced by theSwedish and Netherlands Ministries or Foreign Aairs, with additional support rom the United Nations De-velopment Program. The International Centre or Policy Studies has unctioned as its secretariat.

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InTrodUCTIon

Ukraine has gone through a rollercoaster in the last decade. Eight years o an average economic growtho 7.5 percent rom 2000 until 2007 has been ollowed by severe economic crisis, with gross domesticproduct (GDP) anticipated to slump by 14 percent in 2009. Ukraines presidential elections oer a greatopportunity to launch a major revitalization o the country.

Ukraine is not perorming up to its potential. In 2009, the International Monetary Fund (IMF) as-sessed that its GDP per capita will be as little as $2,540 in current US dollars, placing it 110th in the world.The situation looks only marginally better when GDP is expressed in purchasing power parities, whichreects the actual living standard: $6,460 per capita, at 99th place in the world. In purchasing power pari-ties, Ukraines GDP amounted to 22 percent o the European Union (EU) level and 40 percent o the Rus-sian level in 2009.

Qualitative international comparisons present an even more worrisome picture. At the request othe Foundation o Eective Governance, the World Economic Forum carried out an overview in 2009.Overall, it ranks Ukraine 72nd among 131 countries. On its twelve measures, Ukraine is lagging behindmost in three specic areas: institutions, macroeconomic stability, and goods market efciency. Ukraineis doing comparatively well with regard to primary education, higher education, labor market efciency,and innovation. The picture that emerges is one o a country with impressive human capital, but thishuman capital does not produce as much as it could because the state does not deliver macroeconomicstability while hampering the unctioning o the goods market, not allowing private enterprise to oper-ate sufciently reely.

A more specialized qualitative international comparison, the World Bank Doing Business index,investigates the business environment on ten measures. Overall, it shockingly ranks Ukraine 142 nd outo 183 countries. Particularly arduous are obtaining construction permits and tax payments, whereUkraine ranks 181. The country does very poorly also on starting and closing a business, registration oproperty, and trading across borders. Also the Doing Business index indicates that Ukraines strengthsare education and relatively ree labor markets, as well as banking and, amazingly, the enorcement ocontracts. Similarly, Transparency International ranks Ukraine 146th out o 180 countries on its 2009 cor-ruption perception index.

The position o Ukraine on these indexes has been similar or several years, while some othercountries have made great strides recently, showing that big and ast qualitative changes are possible.

The only big change in Ukraine has been the collapse o macroeconomic stability in 2008. The steadilyrising ination peaked out, while the current account decit became excessive, rendering a large depre-ciation o the currency necessary. In the last ve years, the only major reorm Ukraine has undertaken isadopting legislation or its accession to the World Trade Organization in May 2008.

During the last hal-decade, a large number o domestic and international studies have been un-dertaken on Ukraines conundrum and proposals or change. The current authors were responsible orthe Blue Ribbon Report Proposals or the New Presidentin January 2005 sponsored by the United NationsDevelopment Program (UNDP). The UNDP has ollowed up with three successive reports, the latest owhich contains very detailed proposals or legislative change. The Organization or Economic Coopera-tion and Development (OECD) has carried out a ew studies on how to improve the business environ-

ment and legal system. The World Bank has conducted numerous large sector studies and issued manycountry memoranda. The Doing Business index oers very specic observations on the problems, ren-dering it useul also as a checklist or what to do. The International Monetary Funds letters o intent with


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the Ukrainian government outline the macroeconomic cure. The European Business Association has o-ered detailed and concrete proposals or the elimination o barriers to business, while the AmericanChamber o Commerce has provided similar advice particularly on how to improve tax administration.The Foundation o Eective Governance has sponsored two McKinsey studies on what reorms to un-dertake, one o which is broad and general and the other narrow and specic. Other think tanks have

also undertaken useul studies, notably the Institute or Economic Research and Policy Consulting, theInternational Center or Policy Studies, and the Center or Economic Development. As a matter o style,this report does not include detailed reerences, but we grateully acknowledge all these useul studiesand list them in an appendix.

All these prior reports with reorm proposals have contributed to the ormation o a broad Ukrai-nian and international consensus about what needs to be done in Ukraine. The question is less what todo but rather how to get it done. Hopeully, the presidential elections, regardless o the outcome, willbreak the political stalemate that is preventing reorm in Ukraine. Broad Ukrainian policy consensus canthen deliver eective policy changes, and it is important to have a easible action program at hand.

This report aims to oer an operative action program or the rst 300 days o a new administra-tion. Our Commission has three goals. First, we want to provide a useul narrative or why reorms arenecessary and how to undertake them. Our aim is to reect the broad consensus that exists in Ukrainiansociety. Second, we endeavor to oer a clear list o policy priorities. Thereore, the Commission is notcovering all topics but only a limited number o key themes. Within these areas we have jointly chosena dozen top priorities to be undertaken or at least initiated within the rst year ater the presidentialelections, with the understanding that both policy capacity and time are limited. Third, we have com-piled a separate appendix with a list o detailed actions, which draws on the work o the Blue RibbonAnalytical and Advisory Centre.

The Commission has adopted this report with consensus, and our intention is to compose a re-port that reects a broad consensus on what Ukraine needs to do, thus avoiding the most controversialand divisive issues. We have talked and listened to both the government and the opposition to presenta balanced analysis, but we are reserving our right as independent experts to point out what is trulynecessary.

This Independent International Expert Commission is building on the lessons derived rom theBlue Ribbon Commission in the all o 2004. The co-chairmen came up with the proposal and receivedthe endorsement rom Ukraines prime minister at a roundtable in Kyiv on September 28, 2009, whichwas attended by representatives o think tanks and international organizations as well as several mem-bers o government. The prime minister promised necessary government assistance with inormation.The co-chairmen invited the commissioners, hal o whom are Ukrainians and the other hal oreigners.The commissioners are prominent experts on dierent aspects o reorm and policy and are all indepen-dent o government, political parties, and business. The International Center or Policy Studies (ICPS), aKyiv think tank, has unctioned as the secretariat o the Commission.

The Commission report is based on contributions rom Ukrainian commissioners. The drats werediscussed intensely in six working group meetings in Kyiv on December 8-10, 2009. Each working grouphad about a dozen participants, representing a broad spectrum o interested think tanks and associa-tions. Ater the discussion, the chapters were revised and the whole report edited or substance by theco-chairmen. The drat report was circulated to the whole Commission, and their comments were incor-porated by the co-chairmen. Madona Devasahayam has language edited the English version and Olek-

sandr Shevtsov the Ukrainian version. The Commission adopted the nal report at a whole-day plenarymeeting on February 2, 2010, in Kyiv.


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The Commissions work has been nanced by generous matching grants rom the Swedish andNetherlands Ministries or Foreign Aairs. In addition, we have greatly beneted rom a variety o ser-vices oered by the UNDP in Kyiv.

Kyiv, February 2, 2010

Anders slund Oleksandr PaskhaverCo-Chairman Co-Chairman


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ChapTer 1

a new wave of reforMs Is CrITICally needed

In February 2010, Ukraine aces an extraordinary window o opportunity. The country has a unique po-litical possibility and great economic need to launch a new wave o reorm. The new Ukrainian authori-ties need to act ast and orceully to shore up the state.

A presidential election oers a great opportunity or a new start. The new president enjoys a po-litical mandate, and i the parliament gives a honeymoon o legislative support, a new administration isready to govern. But the period o extraordinary politics, when the parliament and public allow thepresident to act ast and radically, will probably be brie.

At this time, Ukraine badly needs to launch a new wave o substantial and comprehensive re-orms, which are widely perceived as necessary. The economic crisis has shown the weakness o the old

Ukrainian state and economy, and at present the state has no room or increased public expenditures.According to the European Bank or Reconstruction and Development, Ukraine is a relative laggardamong the post-Soviet countries in terms o economic and institutional reorms. A comparative WorldBank study in 2005 assessed that Ukraine was one o the post-Soviet countries with the least amount onovel market economic legislation. Since then Ukraine has adopted minimum new legislation, whileanother laggard, Georgia, has orged ahead.

The Ukrainian people have learned their bitter lesson and are ready or change: Their state is onlypartially reormed, and the many distortions both in legislation and execution o power breed dysunc-tion and corruption, which they have to pay or. The public eel that we cannot go on like this any lon-ger. One o Ukraines greatest assets is reedom o media, expression, and association, which has our-

ished ater the Orange Revolution in late 2004. This reedom has acilitated a broad public debate thathas brought about great public understanding about the problems and a broad consensus about whatreorms Ukraine requires. This report attempts to speciy this consensus and suggests operativesolutions.

Because o the many years o neglecting reorm, tasks have in many ways become more difcultin Ukraine. First, legislation is substandard. The common statement that Ukraine has good laws but theyhave not been implemented is not true. On the contrary, the country has ew modern laws, and thequality o new legislation is generally considered unsatisactory. Too much Soviet legislation has per-sisted or too long, and it permeates many new laws. During the many years o distorted markets, multi-ple vested interests have twisted many laws to their advantage. Endemic corruption has bred legislation

that oers corrupt ofcials the opportunity to reap more corrupt revenue. The competence to drat lawshas also been insufcient.

Second, not only the legislation but also the legislative process is tilted to the advantage o vestedinterests. This process is inordinately complex and non-transparent in Ukraine. It should be opened up,abridged, and made more cohesive. It must be made easier or the ruling political orces to have legisla-tion adopted in line with their design.

Third, the governments capacity to ormulate and carry out reorms is limited. The great bureau-cratization and centralization mean that central authorities are overwhelmed by decision making on allkinds o current matters, leaving them little time or reorms. Thereore, the Ministry o Finance or theMinistry o Economy can hardly lead reorms as has been the case in other countries. We see a need or

a Reorm Commission to be established within the Cabinet o Ministers to be headed by a Deputy PrimeMinister.


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One aim o this report is to suggest ways to overcome these obstacles. Ukraine does have re-sources. It possesses substantial and well-educated human capital, which is greatly underutilized.Ukraines accession to the World Trade Organization in 2008 has secured considerable market access.Reorms in other post-Soviet countries, early on in Estonia and most recently in Georgia, show that sud-den changes are possible and may greatly improve peoples welare. Ukraine can adopt many o these

countries successul cures. Ukraine is part o the western community. The current negotiation o a Euro-pean Association Agreement with the European Union oers many possibilities. One is deep ree trade;another is European engagement in Ukraines institutional reorm; and a third is the adoption o Euro-pean legislation.

Ukraines Reorm Experience

So ar, Ukraine has experienced two waves o substantial reorm. The rst reorm wave started in the lastquarter o 1994, ater Leonid Kuchma was elected president. The second wave arose in the rst quartero 2000, when Kuchma was reelected and Victor Yushchenko became prime minister. In these two cases,reorms occurred immediately ater a presidential election and in the midst o nancial and economic

crisis, underlining that Ukraine currently has a great chance to reorm.However, ater two presidential elections, Ukraine did not opt or economic reorms. By the rst

presidential elections in 1991, the economic crisis was complete, but the country was ocused only onstate-building. Ater the Orange Revolution, there was no economic crisis and euphoria prevailed. Notsurprisingly, no reorm ollowed.

During its rst ten years o independence (1991-2000), Ukraine created the institutions necessaryor the unctioning o the new state and national economy. New or radically changed administrativeand judicial systems were created. Mass privatization helped to orm a novel market economy. Mone-tary, scal, and tax systems were established, as well as systems or the regulation o private enterpriseand competition. The corresponding body o laws was adopted. However, this grand process o creating

new state institutions took place in quite unavorable circumstances.

First, when attaining independence Ukraine entered a deep nancial and systemic crisis that a-ected all aspects o lie. It was connected with the collapse o the Soviet Union and its system o stateplanning. Excessive money supply and scal expenditures prompted devastating shortages, high ina-tion, and Soviet state deault. The military-industrial complex that had constituted most o the industryinstantly lost its market. The traditional ties o the other sectors o the economy were broken o aswell.

Second, the experience o living and surviving under oreign rule or centuries had nurtured aproound mistrust among Ukrainian citizens against state institutions and state power. An elite with thetradition o serving the state, continuity o power, and experience o the strategic vision and gover-nance was absent.

Third, seventy years o Soviet rule had weakened the skills and thinking necessary or a demo-cratic society and a market economy. During these years all orms o civil society had been destroyed. Inthe course o three generations the traditions o sel-organization and solidarity had been eradicated. Inthe 1930s, the social stratathat is, the Ukrainian bourgeoisie and democratic intelligentsia and thewealthy peasantryneeded or building the state and a market economy was annihilated.

Any new state that accumulates the experience o statehood needs decades to improve its construc-

tion. For Ukraine such a strategic eort was all the more necessary, as the building o the new state took

place in parallel with the ormation o an open market economy. It led to an abrupt change o the social

structure o society. A positive development was the emergence o millions o entrepreneurs, who weresel-contained and nancially independent o the state. They entered into complicated and contradictory

relations with the state, among themselves, and their employees. These developments posed new de-

mands on the state to provide high quality regulation and to persistently adjust the regulatory system.


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In the extreme systemic crisis and without experience o statehood, the ormation o institutionsand laws was schematic rather than well-designed. Pervasive inormal management naturally intro-duced corruption into all spheres o state activity, which in turn distorted the construction o the stateapparatus and the legislative system.

Yet, because o heated political conicts, institutional reorms stopped hal-way until 2000. TheOrange Revolution o 2004 was a sharp reaction o the new social strata against the stagnation o insti-tutional reorms. But during the ve years that have passed since that revolution, the process o institu-tional reorms has not been launched.

The poor institutional base o state machinery makes it difcult or the state to respond quicklyand accurately. The global nancial and economic crisis tested the maturity and quality o Ukrainesstate institutions. On the one hand, at the end o 2008 and during 2009, the government successullyaverted the most catastrophic possibilities. On the other hand, the crisis also revealed that the under-re-ormed state apparatus had only limited capacity to handle such challenges.

The beginning o post-crisis recovery growth in the ourth quarter o 2009 underlined another

problem: The post-Soviet Ukrainian economy adjusted to the open market economy at a low-tech level.It is an economy o low productivity, with little diversication, high energy consumption, and depen-dent on external energy monopolies. Post-crisis, the economy is being restored back to the same. So ar,the crisis has not acilitated the necessary structural developments o the Ukrainian economy.

To overcome these dangerous trends Ukraine needs to build an economic system that is capableo delivering ast economic growth. The state budget is overloaded with paternalist unctions o the un-reormed Soviet state, most o all social expenditures but also direct support o the traditional industrialand agrarian sectors (coal mining, metallurgy, and agriculture) and natural monopolies in exchange orprices administratively set below the market level.

The new wave o institutional reorms should remove these lingering contradictions. Strategic re-

orms are needed to undamentally improve the quality o the state and economy. We must obliteratethe image o Ukraine as the country o incomplete reorms and unrealized potential.

The development o society, as well as the current economic and political dynamics, appears tohave created avorable preconditions or a new wave o institutional reorms. It should also help improv-ing the business climate and attract more domestic and oreign investment.

First, 19 years o independence have not only made the social structure more complex but alsoormed a pluralist view o the uture. In parallel to this natural diversity, a nationwide consensus hasbeen ormed about the oundations o society. It may be dened as the European Choice: democracyand market economy, inalienable human rights and political reedoms, the rule o law, and a strong so-cially oriented state. This consensus is the pledge o positive embrace o a new wave o institutional re-

orms aimed at removing the most painul impediments to Ukraines development.

Second, the crisis itsel has shown the need or reorm. The orthcoming phase o post-crisis eco-nomic growth will alleviate the contradictions o the reorm process, especially at its initial stage.

Third, the presidential elections are likely to renew political power and give the new leader a clearmandate or a brie period to take decisive reorm action.

Fourth, the awareness o the costs o not undertaking reorms is growing. The overextended bud-get cannot ulll its obligations in education, health care, justice and inrastructure. The young are loos-ing aith in their uture because o the endemic corruption and many choose emigration. Domestic andoreign businessmen are deterred to invest because o the unavorable business climate.


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Goals and Priorities o Reorms

The main goal o the new wave o institutional reorms is to improve the quality o lie o Ukraines citizens inline with the European Choice and lay the oundation or ast economic growth both in the medium and longterm. This report is devoted to the most painul problems o the state that hinder the realization o this

goal and thereore require urgent reorm.Critically weak links in state capacity need to be strengthened: improvement o the legislative, ex-

ecutive, and judicial branches o government, not least to improve the institutional ability to combatpervasive corruption. To accomplish this, the country requires reorm o the gas sector; a sensible ex-change rate policy; reorm o budget and tax policies; comprehensive market deregulation; administra-tive and judicial reorm; reinorcement o market competition and a undamental improvement o gov-ernance; completion o privatization; improved efciency in the social sector; and urther integrationwith the European Union. Taken together the reorms aim to improve the standard o living o Ukraini-ans and utilize their human capital, thus unleashing the countrys potential o sel-development.

The logic o reorms and the limited resources at hand require that the political leaders choose clear

priorities. Ukraines key problem is that the state malunctions so much that it is unable to carry out itsduties toward its citizens, while hindering the citizens rom solving their problems on their own. There-ore, the top priority is to enhance the ability o the state to respond adequately to external and internalchallenges. Without reorming the state, all other reorms will end up as a waste o resources. The legis-lative, executive, and judicial branches o the state themselves need to greatly improve.

Ater the state, three broad priorities are apparent.First, macroeconomic stabilitymust be restoredand be given a permanent base. Second, the unctioning o Ukraines markets or goods and property re-quires radical improvement. The Soviet management system in the natural monopolies, including cross-pricing and preerential taris as tools o social paternalism and corruption, needs to be ended. This isparticularly true o the energy sector. Third, the eciency and ecacy o social policymust improve to the

benet o the population.

Deense o Reorms: Establish a Reorm Commission

Reorms must not only be started but also completed. Political, organizational, and legal protection maybe as important as the design o reorm, because reorms must be made irreversible.

Thereore, a special agency o reorm is needed. It should not be connected with any agency to bereormed, because all agencies tend to be conservative and resist their own reorm. This is also to avoidconicts o interest. The agency o reorm should have its own budget and a single goal: to design andimplement the reorm. To avoid the bureaucratization o such an agency, it should be headed by aprominent politician who assumes the responsibility beore society or implementing the reorms. He or

she should have sufcient powers, responsibility, and accountability to a higher state authority. The nat-ural solution would be to orm a reorm commission at the Cabinet o Ministers headed by a DeputyPrime Minister entitled to give orders to other ministers, as many other post-communist countries havedone during the intensive phase o their reorms. One o the most successul examples is Poland. Ukrainewould do so later than others because so many reorms remain to be undertaken. At the same time, thegovernment needs to imbed a sufcient number o enlightened, modern thinking and reorm-commit-ted bureaucrats into other key government bodies, notably the Ministry o Finance and the Ministry oEconomy.

The most important impediment or politicians to carry out long-term reorms is the view that re-orms harm the political career o the politician who initiates and carries them out. It is considered an

axiom that such reorms are painul or the population and that uture prots or the people have novalue compared with current costs. Such ears are justied. Apart rom real shortcomings and discom-ort or the population, major social transormations are psychologically challenging and thereore


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breed distrust o power. Even the most successul reorms with an evidently positive balance appear atbest the least evil. But in the post-communist period, almost every incumbent government has lost thenext democratic election, and the ew that have won are actually a couple o radical reorm govern-ments: the Czech government in the early 1990s and the Slovak government in 2004.

Major reorms or modernizations are naturally controversial because they undermine the posi-tion o some old elites while elevating new elites. Thereore, such metamorphoses tend to take place a-ter a major crisis, when the elite is weakened and the public has realized that monumental change isnecessary. Usually, such reorms take place just ater an election that has given a mandate o legitimacyto a government. In recent history, most such reorms have indeed taken place under democracy. Thiswas true o both Eastern Europe and Latin America in the 1980s and 1990s. The stronger the nationalcohesion and the popular consensus, the easier it is to carry out structural reorms that lead to ast eco-nomic growth. In countries with liberal and democratic traditions, where the power is more sensitive topublic opinion, implementation o reorm is less painul and results more predictable. Late comers en-

joy the advantage that they can learn rom the successes and ailures o preceding reorms in othercountries.

The actual results o major reorms are always dierent rom expectations because o their verycomplexity and unpredictable popular responses. Thereore, political leaders have to act innovativelywith a mixture o stubbornness and exibility. To make sound judgments, they require sophisticatedanalysis o the eects and options to constantly adjust plans.

To break popular resistance to reorms, it is also vital that the political leaders clearly explain thegoals and logic o reorms. The success o reorm oten lies with public education. People must under-stand why reorms are being undertaken as well as their potential advantages and drawbacks. The gov-ernment needs to constantly analyze the development o reorms and their eects on the citizens. Anoutstanding historical example is Franklin D. Roosevelts reside chats by radio with the American peo-ple during the New Deal in the 1930s. With the new means o communications, the government can do

so much more to sell its program. When necessary, it should be able to quickly adjust the reorms. Thegovernment must also keep the population updated about the evolution and results o the reorms.Popular resistance to reorms can be mitigated with social compensation designed to shield the popula-tion rom the most evident negative eects o reorms, such as price increases because o liberalization.In short, reorms are unlikely to be successul i the population is not being persuaded that the reormsare in their interests.

Fierce and inventive resistance to reorms is inevitable, but reorms can be carried out by a gov-ernment that possesses the persuasion and energy and ability to listen and adjust its actions. Stubborn-ness is also necessary. The government must show a will to stick to its principles and complete the re-orms once started. Otherwise it will lose credibility, and its opponents will be encouraged to rally

against the government. One way o resolving this problem is to give the Reorm Commission clearquantitative goals, such as improving Ukraines ranking on the World Bank Doing Business index. An-other possibility would be to give the Reorm Commission extraordinary powers or a limited period, orexample, one year.

Recommendation

A Reorm Commission should be ormed at the Cabinet o Ministers headed by a Deputy PrimeMinister entitled to give order to other ministers. The Commission should be provided with ade-quate nancial and human resources, including high quality experts. The Reorm Commissionwould work in parallel to the European Integration secretariat.


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The Anti-Crisis Policy:The IMF External Anchor or Fiscal and Exchange Rate Reorms

The global nancial crisis has hit Ukraine hard. In late September 2008, global liquidity roze, and Ukrainewas completely excluded rom global nance. Several industriesconstruction, metallurgy, mining,

and machine-buildingsaw their output alling momentarily by about hal. Only agriculture escapedthe crisis. Ukraine has been one o the countries in the world most severely hit by the crisis. The impacto the crisis and the anti-crisis policy will constrain the countrys economic policy or the next ewyears.

Ukraine suered so badly or several reasons. The undamental problem was Ukraines exchangerate policy. The country had maintained a xed exchange rate to the US dollar or years. Thereore, cur-rency inows increased the money supply excessively, resulting in ination. Ukraine had experienceddouble-digit ination rom 2004, and in May 2008 ination peaked at 31 percent year over year. As aconsequence, Ukraine priced itsel out o the market. Imports rose more than exports, and the currentaccount decit expanded to 7 percent o GDP in 2008.

The crisis was aggravated by structural disproportions. Steel accounted or no less than 42 per-cent o Ukraines exports in the rst hal o 2008, but rom July 2008 steel prices and exports plummeted.The outside world was unimpressed with the Ukrainian political stage, which appeared to be in grid-lock, and the poor business climate. Without membership o the European Union or other internationalcommunity, Ukraine had the option to turn to the International Monetary Fund (IMF) and other interna-tional nancial institutionsthe World Bank, European Bank or Reconstruction and Development(EBRD), and the European Investment Bank (EIB).

Ukraine speedily concluded its stabilization program with the IMF in October 2008, and rightly so,because the crisis was dire. Initially, the IMF posed its standard demand o a balanced state budget, butover time it has relaxed this demand and accepted a consolidated state budget decit o as much as 6

percent o GDP in 2009. The second IMF demand was a realistic exchange rate, which meant that the ex-change rate would oat and the hryvnia thus be depreciated. In eect, the National Bank o Ukraine(NBU) did so in November. The third key condition was bank restructuring and bank recapitalization. Inreturn, the IMF committed a very large amount o $16.4 billion in nancing over two years, and this -nancing was heavily ront-loaded and made available at very low interest rate. By extending large loansand pressing or scal reorms IMF became the external anchor or the stabilization o the Ukrainianeconomy.

Ukraine has been able to draw three tranches o a total o nearly $11 billion by the end o 2009.Contrary to standard IMF procedures, it could use much o this nancing or its budget expendituresand not only or its international currency reserves. In addition, in September 2009, the IMF issued new

special drawing rights, which means that the IMF printed money and distributed it to the member coun-tries in relation to their quotas with the IMF. Ukraine received $2.1 billion, which was used or additionalbudget nancing. Thus, Ukraine has managed to keep aoat in 2009 in spite o the crisis swelling needsor public expenditures and reducing state revenues. Because o a public debt o only 12 percent o GDPin 2007, Ukraines public debt remains relatively low. By the end o 2008, Ukraine had accumulated a or-eign debt o around $103 billion or about 57 percent o GDP, which implied some vulnerability, butabout 80 percent o the debt service alling due has been renanced. By the end o 2009, Ukraines in-ternational reserves remained at the level o $27 billion or one-quarter o GDP. The big concern, howev-er, is that GDP in 2009 is likely to have allen by no less than 14 percent.

The anti-crisis policy has put Ukraine on a specic track. It has severely limited its options or the

next ew years. Ukraine has simply ewer possible choices than it had beore the crisis. In order to thrive,its political leaders must consider these restrictions.


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Exchange rate policy. Ukraine must not peg its exchange rate again. The only sensible exchangerate regime or Ukraine appears to be ination targeting, that is, the exchange rate will oat and mone-tary policy will aim at keeping ination low and stable. The NBU can undertake limited currency inter-ventions to smoothen uctuations, but it must not target one specic exchange rate any longer. A pre-condition or ination targeting is that the NBU be truly independent rom daily political vagaries.

Public expenditures. Ukraines public nances will be under tremendous pressure or the next ewyears, and public expenditures will be severely restricted. Major public expansion will not be possibleor years to come. On the contrary, this is the time to rationalize public expenditures, while ad hoc cutsshould be avoided ater the acute crisis has passed. The government needs to set agreed targets oroverall public expenditures as a share o GDP, and the proportions o the main components o publicexpenditures as a share o GDP should also be set or the medium term. In order to oer the citizens asmuch as possible rom the available public unds, public expenditure as such and its main componentsneed to go through undamental reorms.

State revenues. Just as public expenditures are constrained and rationalized, tax revenues need tobe bueted and rationalized. Major loopholes in the tax system need to be closed, while taxation needsto become more purposeul. Taxation and especially tax administration should be simplied and equal-ized. While the main structure o the tax system makes sense, the tax administration is excessively bur-densome and inefcient, harming both the state and the taxpayers.

International nance. For the next couple o years, Ukraine will have limited access to internation-al nancial markets. The most signicant orms o international nancing will be governmental nanc-ing (international nancial institutions and oreign governments) and oreign direct investment. This isa propitious time to improve the business environment to stimulate both domestic enterprise and or-eign direct investment. International nancial institutions provide an important external anchor orUkraines economic reorms.

Bank restructuring and nationalization.The nancial crisis has orced Ukraine to carry out substan-

tial bank restructuring. Rather than stopping halway, the authorities should take the opportunity toclean out bad banking practices and substandard banks. The government has been orced to national-ize seven banks. While this was necessary or nancial stability as well as the banks state recapitaliza-tion, the government should plan their privatization as soon as it makes commercial sense.

Regulation and state aid. Crisis requires ad hoc measures. Certain industries have received discre-tionary state support, or example, lower gas prices or ertilizer plants or direct subsidies. Currency reg-ulation has been aggravated. These temporary emergency measures should be eliminated as soon aseasible.

The Ukrainian nation has incurred tremendous costs due to the global nancial crisis. It is impor-

tant to ensure that these costs are not sheer waste but an investment in a better society and economy.


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ChapTer 2

howTo reforMThe sTaTe

Bad governance can jeopardize the greatest opportunities o any country. The quality o governancedepends, on the one hand, on a governments institutional organization and, on the other hand, on theabilities o politicians, civil servants, and judges. To quickly replace all untalented and corrupt ofcialswith air and skilled proessionals is impossible. But a rational organization o government creates con-ditions or a gradual improvement o the political, managerial, and judicial elite, thus acilitating a betterstate policy and management, as well as limiting corruption. No success can be expected in any sectorwithout institutional reorms.

Ukraines undamental problem has been the dysunction o its state. Ukraines whole history asan independent state has been colored by intense disputes over the Constitution. These problems are

maniold. The adoption o the Constitution o Ukraine in 1996 brought about some clarity, but the con-stitutional amendments o December 2004 aggravated the situation by precluding a sensible divisiono powers. Severe problems persist in all branches o power, which are all characterized by gridlock aswell as intrusive petty tutelage.

The unctions o the state need to be claried, simplied, and improved. The parliaments legisla-tive process should be streamlined to improve the quality o legislation. The executive needs to bestreamlined and decentralized through an administrative reorm to allow or more eective and accu-rate application o law. The administration needs to be endowed with a new sense o public service. Ju-dicial reorm is necessary not least or eective judicial control o the unctioning o the state. Becauseo the malunctioning o the state, many problems have been solved by corruption, which has become

endemic. All the reorms o the state should serve to contain corruption, but it also needs to be attackedhead on with a realistic anti-corruption program.

The strengthening o the eectiveness o the state depends on the resolution o ve groups o in-terrelated issues: improvement o the parliamentary and legislative system, administrative reorm, judi-cial reorm, anti-corruption action, and constitutional reorm.

Improvement o Parliamentarism and Legislative System

The main problem with the work o Ukraines parliament is that the parliament, on the one hand, ndsit very difcult to enact laws. On the other hand, when laws are actually promulgated the process is switand haphazard. The outcome is that laws needed or reorm are not adopted and that the enacted laws

are oten o poor quality as vested interests can manipulate the legislative process through detactions.

The Ukrainian electoral system has gradually moved rom the majority election o candidates inone-man constituencies to ully proportional elections with a threshold, currently o 3 percent, or rep-resentation. The trend has been toward increasing party discipline and ewer political parties represent-ed in parliament. Four concerns stand out about the Ukrainian parliament, namely, personal choice ocandidates, campaign nancing, legislative efcacy, and the accountability o parliamentarians.

Open lists. At present, the leadership o each party decides the order o candidates on a partyselectoral list. A broad Ukrainian consensus advocates that a personal choice be added to the partychoice through open lists, that is, proportional voting should be complemented with preerences or

specic candidates: A voter would vote both or a party and one o many candidates presented by thatparty. In one electoral district, a party receives a certain number o seats, which would be distributedwithin the party on the basis o the individual vote tolls. Such electoral systems unction successully in


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Germany, Finland and Poland. This would enhance democratic competition and make it more difcultto buy a seat in parliament.

Campaign nancing is a problem in most democracies, but Ukrainian election campaigns areamong the most expensive in the world. The legal limits or party nancing are implausibly low and not

taken seriously. It would be desirable to limit the unding o parties with private contributions. A moreeasible approach would be to insist on transparency o party nancing. I the efcacy and transparencyo the parliament improve, campaign nancing is likely to decline to a more normal level. Then, it mightbe possible to introduce state nancing o parties, but today it is not.

Decision through simple majority. It has become exceedingly difcult to reach decisions in parlia-

ment because o the requirement that a majority o all deputies (226 out o 450) approve o any decision.

In order to ensure eective parliamentary lawmaking, proper quality and stability o laws, the Constitu-

tion should stipulate that most o the matters be decided by a simple majority o votes o the parliamen-

tarians present, as is the practice in most parliaments, abandoning the current demand or an absolute

majority o all deputies or all decisions. Only the most important decisions, such as a vote o no con-

dence in the government, should require an absolute or qualied majority o all the parliamentarians.

Simpliy and standardize the legislative process. When a law is actually adopted, however, the proc-ess is oten haphazard and surprising. The legislative process needs to be standardized and simplied,which is largely a matter o internal parliamentary organization. Bills should be prepared in advance andposted a certain time beore they are presented or parliamentary debate or votes, and the rules shouldreally be imposed. They should also be subject to mandatory government assessment. It is necessary tostop the abuse o the abbreviated discussion o bills and to introduce specic mechanisms o involvingthe public and all stakeholders in their preparation and consideration.

Improve existing legislation. Much o the current legislation is o insufcient quality and major ele-ments are oten missing, relegated to subordinate regulatory acts. The European integration involvesthe adoption o a large number o legal acts, but the European body o laws, the

acquis communautaire,

does not include major laws and legal codes, which remain national legislation. When time arises,Ukraine should undertake a thorough review o already existing legislation whose quality needs to im-prove. One convenient way o doing so is to import good laws rom post-Soviet countries with modernlegislation o high quality, such as Estonia.

The lack o accountability o the parliamentarians is a concern. The easiest way to introduce someaccountability is to limit their parliamentary immunity.

Recommendations

1. Open party lists with not only party choice but also personal choice in parliamentary elections

should be introduced through amendment o the election law.2. Transparency o party nancing should be improved by demanding that all political contribu-

tions be made public.

3. Ordinary parliamentary decisions should require only a simple majority o those present. The leg-islative process must be simplied and tightened. It contains too many steps, and the changesthat can be undertaken in any step are too great. These rules should be set through the adop-tion o a Law on the Verkhovna Rada Regulations.

Administrative Reorm

Ukraines malunctioning executive is perhaps o greatest concern. Without systemic reorm o the ex-

ecutive branch, local sel-governments, as well as public and municipal services, the country cannotprosper. The organization o the state needs to be improved through a clear distribution o tasks andauthority and decentralization.


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Reorm should be based on the Public Administration Reorm Concept, which exists in drat. Itbuilds on three documents approved by the presidents o Ukraine: the Administrative Reorm Concept,the Concept o Development o Public Service Legislation, and the Concept o Improvement o theState Regulation o Natural Monopolies.

Reorm o executive power should make the Cabinet o Ministers the center o political leadershipand policymaking, while delegating administrative powers to executive authorities at lower levels as aras easible. The ministers should concentrate on policymaking rather than administration. The work othe government needs to become more ormal and guided by strategic thinking rather than by haphaz-ard instructions rom various top ofcials. Concepts, bills, and acts o the Cabinet o Ministers shouldbe drated by the ministries and initiated by ministers in line with strategic political decisions.

Strengthen the governments control over budget legislation. The annual state budget is a centralgovernment program. It should be given special treatment in the legislative process. The parliamentshould be given less leeway than it is today in budget matters. Some countries allow their parliamentsonly to adopt or reute the budget, while others permit merely limited and balanced changes to makeit easier or the government to pursue a consistent budget strategy. Another common rule is that theparliament should not be allowed to incur new expenditures without corresponding nancing, whichacilitates the tightening o budgetary expenditures.

Reinorce the ministries ocus on policymaking. The ministries are the central executive authorities.They need to combine two qualities: provide political leadership, while maintaining high proessionalstandards. In order to do so, the government needs to draw a clear line between political and adminis-trative posts in the ministries. Deputy ministries should be considered political appointees and theirnumber be reduced signicantly. In each ministry, a top civil servant, a state secretary, should be re-sponsible or managing the ministrys apparatus, serving as its institutional memory. State secretaries othe ministries should be appointed by the Cabinet o Ministers on merit in a competitive manner, ac-cording to the procedure stipulated by the civil service legislation.

Ministries should be relieved o most o their current administration unctions, which should be dele-gated to autonomous government services, agencies, and inspectorates. Ministries are not supposed tomanage enterprises. The Cabinet o Ministers should appoint the heads o all government bodies aternomination by the responsible minister. Although a minister is politically responsible or the activities osubordinate government bodies, they should perorm their work independently, based on relevant leg-islation, without petty tutelage rom the ministry. All state agencies should be subject to regular auditsby the Auditing Chamber.

Regulating agencies o natural monopolies need independence and integrity. The regulating agen-cies o natural monopolies orm a special category. They should be guaranteed independence and pro-tected rom political and commercial intererence. Reorm o the regulators should attempt to balancethe interests o consumers, monopolies, and the state, securing the autonomy o the regulators rom allthree. Work o regulators should be based on collegiality principles. Consumers should be guaranteedaccess to services o sufcient quality at prices based on economic reason (cost recovery rates). As longas state-owned monopolistic companies persist, they should enjoy a reasonable margin o prot so thatthey can maintain necessary services and investments in inrastructure. The state should be interestedin guaranteeing supply, national efciency, and social sustenance. State companies should be separatedrom regulatory agencies and ministries and be subject to the same regulatory rules as privatecompanies.

Currently, independent regulators supervise only energy and communications, but their regula-tion should be extended to transportation and utilities, which at present are unregulated. The gover-

nance o independent regulators should be improved through xed appointment terms o their man-agement and through enhanced transparency to ensure that they are truly independent rom allstakeholders.


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Improve the civil service. The civil service needs to be reormed to create a proessional, politicallyneutral, and responsible corps o civil servants accepted through competitive exams and promoted onmerit.

A reorm o the government is essential, but the transition is always difcult because everybody

in the state administration has to be involved. The experience rom especially Russia shows that such areorm can cost almost one year when the whole state administration is only preoccupied with itsel.Thereore, this organizational reorm should be carried out but only ater other reorms that are imme-diately needed have been carried out, that is, not in the rst year o reorm, whereas the governmentshould immediately undertake measures to improve the quality o the state service and hire skilul pro-essionals or essential parts o the state administration.

Recommendation

Ukraine should adopt a Law on Ministries and Other Central Executive Agencies and a new version othe Law on State Service to pursue a civil service reorm. This law should separate political and civilservice unctions. To ensure proessionalism o public service, all civil servants should be recruited

through competitive entrance exams based on merit, and their advancement should also be de-termined on merit. Their salaries should be market-related and competitive to minimize thetemptation o corruption. Political neutrality o public service should be ensured by banning civilservants rom engaging in political activities up to a ban on membership in political parties ortop civil servants. Legislation should be adopted to establish proessional ethics or civil servantsand to monitor their property, incomes, and expenditures to combat corruption.

Reorm o Local Sel-Governments andthe Administrative-Territorial System

Ukraine has both regional and local executive organs as well as local sel-government, but neither has been

given a suitable ramework or its unctioning. The Concept o Local Sel-Government Reorm, approved by

the Cabinet o Ministers o Ukraine in 2009, can serve as a basis or such a reorm.The establishment o an

eective system o local government requires joint reorm o local sel-government and the state adminis-

trative-territorial system. The goal should be to create a clear three-tier system o territorial units, which

could serve as a territorial base or local and regional sel-governance: communities, districts (raiony), and

regions (oblasti). When determining the powers o each level o authority, the subsidiarity principle should

be the guide: All administrative tasks should be carried out at as low a level as is practical.

The community should be the basic unit o the administrative-territorial structure. Their currentnumber is ar too large and they need to be merged (around economically successul locations) to beable to unction. The communitys head and council should be elected by direct vote. To ulll their

mandates, local sel-governments should possess sufcient property and nancial resources. Local tasksshould include police, re-ghting, and provision o most o administrative services.

Also, districts (raiony), the second level o sel-governance, require major consolidation. Theyshould be responsible only or those public tasks that cannot be successully perormed at the commu-nity level. District councils could be ormed through indirect elections among community councils. Theyshould have their own executive committees, which requires an amendment o the Constitution. Provi-sion o in-patient medical care is a natural task or district-level sel-governance.

24 oblasts and the Autonomous Republic o Crimea should be the territorial basis or regionalsel-governance. Once the local sel-government reorm is completed, the Concept o Regional Sel-Government should be developed and approved. The main tasks o regional sel-governments shouldbe to ensure the regions social and economic development, investment promotion, development oregional transportation inrastructure, culture, sports, tourism, environment protection, preservation oa regions ethnic and cultural specics, and operation o specialized health care and educational institu-


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tions. Regional councils should be directly elected by the regions residents, and their executive bodiesshould work as regional sel-governments.

Financing o regional and local authorities needs to be prooundly decentralized. In the currentsystem almost all tax revenues are supposed to go up to the central state treasury and then some go

back down to localities. These large vertical transers o unds are inefcient and distort incentives. Re-gional and local authorities would be much more interested in the development o their territories ithey were dependent on local tax revenues. Incentives to introduce small nuisance taxes and ocus onpenalties and ees that they control themselves would disappear. Preerably, each level o governmentshould be allowed to live on taxes appropriate or their level and care or a certain sphere o expendi-tures. For example, communities collect taxes rom personal income, land and property, and small en-terprises so that they care about local development. Regions could receive a certain share o corporateincome taxes.

The executive branch at the local levelneeds to become more eective in its relations with boththe Cabinet o Ministers and local sel-government. In order to ensure political neutrality and proes-sionalism, the heads o local public administration should be civil service career ofcials. Tasks should beclearly divided between the local public administration and the local sel-government.

Ideally, public services should be decentralized to the lowest easible level, and each level o gov-ernment should receive its revenues rom taxes that it controls and collects itsel. Then authorities willstop harassing local businessmen and nuisance taxes will ade away, as such practices hinder local de-velopment and thus the tax base and tax revenues. Meanwhile, local and regional elections o bothcouncils and executives will lead to transparency and democratic control with checks and balances.

A territorial-administrative reorm takes a long time to carry out and requires thorough prepara-tion. Thereore it should be well-prepared in 2010 and carried out in 2011.

Recommendation

A reorm o regional and local sel-government needs to be initiated. It should contain our major ele-ments. First, the units at the two lowest levels o the administrative hierarchy (communities anddistricts) need to be merged and the number sharply reduced to become viable; the number ooblasts seems ne. Second, a large number o unctions should be decentralized. Third, oblasts,districts, and communities should all receive larger direct tax revenues so that they do not haveto depend almost completely on the central state treasury and are not tempted to expand theirrevenues in harmul ways by extracting penalties through damaging inspections. Fourth, the re-orm should ollow the principles o the European Charter o Local Sel-Government that Ukrainehas ratied.

A New Sense o Public ServiceOne o the greatest needs is to efciently and justly regulate the relations between public administra-tion and individuals. Citizens should be endowed with greater power in relation to state and municipalauthorities, which should be contained and disciplined. State and sel-governance bodies should beencouraged to adopt a new attitude o public service toward the citizens. Three documents that outlinesuch reorms are the government-approved Concept o Development o a System o AdministrativeService and the presidential Concepts o Combating Corruption on the Way to Integrity and o Reormo Criminal Justice in Ukraine.

Contacts between government and individual should be minimized, and administrative procedures

should be simple and rational. To minimize the contact between individuals and enterprises with the

state, the number o administrative procedures must be sharply reduced and concentrated. As ar as pos-

sible, public services should require only one stop at government ofces, providing an individual or en-

terprise with the opportunity to complete all ormalities at one time in one spot. Any additional proce-


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dures should be carried out by that public ofce. All government agencies should be obliged to accept

and consider the documents submitted through municipal one-stop shops o administrative services. To

make the administrative simplication eective, all legal requirements need to be specied in law.

Adopt a Law on Public Inormation. The most important weapon against corruption is transparen-

cy. Ukraines ree media are excellent at exposing corruption, but the state should make it easier orthem to obtain inormation. The Scandinavian countries, which have the least corruption in the world,have or a long time had ar-reaching laws that render all state inormation available to the citizenry,with three exceptions: national security issues, strictly private matters such as medial records, and com-mercial matters. Ukraine should adopt such a Law on Public Inormation, which should guarantee thatall state inormation be available to the public, except the three areas just mentioned. It should declarethat a broad range o public inormation should be reely available on the internet. Much public inor-mation is already available on the internet in Ukraine, notably laws, but budgets at all administrativelevels and all court decisions should also be publicized on the web. Major politicians already have to de-clare their spouses and their wealth and incomes, but the range o ofcials who have to make such dec-larations should be widened, and it is all too evident that many politicians understate their wealth and

incomes. Control over the veracity o this inormation should be strengthened. In particular, the undingo political parties and candidates or elections should be transparent and subject to public control.

Promote e-government. One o the best ways o making contacts between individuals and thegovernment efcient, standardized, ast, simple, cheap, and transparent is e-government. Electronicdocument management should be utilized as ar as possible at all public administration levels. To amaximum, individuals should be oered the option o addressing government agencies through inor-mation and communication technologies, and the government should provide maximum inormationcontent and interaction through public websites. Estonia has been the pioneer in e-government, andUkraine can draw on its success.

Rights o individuals. All individuals should be given plenty o opportunities to complain about

and rectiy government intererence. The state must guarantee each individual the right to impartialand air decisions on his or her issue within reasonable time. Particularly important are procedural guar-antees o the protection o the rights o individuals. Administrative procedural legislation should strictlycontrol any intererence by any public body on its own initiative into the rights and lawul interests oindividuals. Simple and cheap administrative out-o-court appeals should be developed or the protec-tion o individuals rights in relation to public administration.

Reinorce auditing o state institutions. Instead o the state controlling the citizens, the citizensneed to control the state and its many arms. A standard method o doing so is through a powerul inde-pendent Auditing Chamber, whose head is appointed by the parliament. Ukraine has such an institutionand order, but its Auditing Chamber could be reinorced with greater authority and resources to enable

it to audit all kinds o state institutions to audit the utilization o state unds.The relationship between state ofcials and individuals must change undamentally. The govern-

ment should serve the citizens rather than commanding them or even behaving as their owner as wasthe case under Soviet rule. To ensure that state ofcials behave legally and respectully toward the citi-zens, the ofcials must bear legal responsibility or their acts.

Recommendations

1. Ukraine should adopt an Administrative-Procedural Code guaranteeing the rights o the individ-ual in relation to the state administration.

2. A Law on Public Inormation should be adopted. All state inormation should be available to thepublic, as ar as possible ree o charge through the internet, apart rom three kinds o inorma-tion: national security issues, strictly private matters such as medial records, and commercialmatters.


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3. Ukraine has started developing e-government, but much more must be accomplished. Mostgovernment ormalities should be possible to carry out on the internet, rom enterprise regis-tration to tax administration. The aim should be to standardize and minimize the contacts be-tween the state and entrepreneurs and to make the remaining contacts as impersonal as pos-sible to minimize corruption. Estonia appears the most successul example o e-government.

4. The powers and resources o the Auditing Chamber should be reinorced.

5. Eective disciplinary and criminal responsibility o public ocials or non-compliance with the lawshould be introduced.

Judicial Reorm

Judging rom Ukrainian public opinion, the judicial system is the weakest link in the Ukrainian state. Thecourt system is perceived as one o the most pervasively corrupt parts o the government, subject tocommercial and political inuences, and incompetent. Thereore, judicial reorm is vital, but it is a long-term, complex undertaking. All elements o the judicial system need to be improved. The judicial divi-

sion o labor and hierarchy must be claried. Training and selection o judges need to be improved,made more transparent, and meritocratic. Courts and judges require sufcient nancing. Since the courtsystem is considered prooundly corrupt, an independent, central, and powerul auditing authority isneeded or court judgments.

Judicial reorm has been undertaken in bits and pieces or many years and a strategy has beenelaborated. Three concepts approved by the president in 2006-2008 orm the basis o urther reorm:the Concept or the Improvement o the Judiciary to Ensure Fair Trial in Ukraine in Line with EuropeanStandards, Concept o Building a System o Free Legal Aid in Ukraine, and Concept o Reorming theCriminal Justice o Ukraine.

Clariy division o competence and jurisdiction. According to the Law on the Judiciary, justice in

Ukraine is administered by general and specialized (at present: commercial and administrative) courts.In addition, military courts are unctioning within the system o general courts. Because o unclear divi-sion o competence among these dierent types o courts, it is oten unclear to which court a case be-longs. For example, civil cases are being allocated to civil and economic courts depending on the statuso the parties. The unclear division o competence between specialized courts results in requent con-icts o competence between commercial or administrative courts, which at present are resolved by su-perior specialized courts. There are also oten conicts as to the rules or the allocation o cases to onekind o court. They need to be claried by a law to limit competition over jurisdiction.

To improve the proessionalism o judges, their selection should be transparent and centralizedbased on competition and competence. Candidates or judges should receive better training at the

Academy o Judges, as well as regular urther training. Judges should be appointed by judiciary collec-tives and not by political bodies. In the long term, the Supreme Council o Justicean independentbody consisting o the best expertsshould appoint judges or long xed mandates or even unlimitedperiods, but rst the procedure o orming the Supreme Council o Justice needs to be reormed so thatit becomes a truly proessional and impartial body.

Reinorce judges integrity. A judge should be truly independent rom political or commercial inter-erence into the execution o justice. Heads o courts should be deprived o the powers they use to inu-ence other judges. An automatic distribution o cases among judges should be introduced in all typeso courts to render the allocation impartial. Such a system already has been introduced in administrativecourts. Both courts and judges must receive sufcient public nancing rom the central state to ensure

the proper unctioning o courts (a sufcient number o judges and support personnel, supply o ade-quate space and equipment, etc.). Courts cannot be impartial i judges cannot live decently on their sal-aries. At the same time as their required qualications and salaries increase, judges responsibility shouldrise and sanctions or inappropriate behavior reinorced. Clear grounds should be legislated or their


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dismissal rom ofce and an eective disciplinary procedure should be ensured. It should provide anyindividual with the right to le an appeal with the Disciplinary Committee. Disciplinary proceedingsshould become transparent and nal decisions should be public.

Court proceedings should improve in order to make them more transparent, impartial, and eec-

tive. New procedures should be introduced to ensure equal application o the laws by all courts. At pres-ent even similar court actions, such as the rejection o a judge, is carried out according to dierent pro-cedures. A superior court should not return a case to a lower court ater an appeal but use its powers torevise the case itsel. Where any dierence is revealed in the practices o higher courts, the SupremeCourt should eliminate them by revising the case.

Alternative ways o dispute resolution must be promoted to reducet the case load at courts, suchas: (i) mediation (which is used in most countries o the European Union); (ii) independent arbitrationtribunals; and (iii) enhancing the potential o notaries by assigning to them the unction o order pro-ceedings in civil proceedings (issuing a court order in the absence o a dispute).

All court proceedings and judgments must be public and all barriers to public access should be elim-

inated. All judgments should be entered in the Single State Register o Court Judgments within man-dated time and made public through the internet. At present the access to court judgments is declaredby the Law on Access to Court Judgments, but in practice the Single State Register o Court Judgments,which was introduced in 2006, is ar rom being complete, has a deective search system and is oten outo order. To make sure that cases are being brought to court within reasonable time, the load on courtsshould be reduced and eective mechanisms or the redress o injury should be introduced. The adver-sarial principle should be strengthened in criminal justice, and the deense should receive eective ca-pabilities to gather evidence. Trial juries should be launched as established by the Constitution. Eec-tive legal aid should be accessible in all types o proceedings, and low-income individuals should get iton the account o the state. (The Law on Free Legal Aid was adopted in the rst reading by theParliament.)

Improve execution o courts judgments. Legislative barriers preventing the execution o the courtsjudgments against the state, its bodies, institutions, and enterprises should be removed. The state bud-get should include sufcient resources to cover the execution o courts judgments.

The role o constitutional justice should be reinorced by renewing a third o the judges o theConstitutional Court every three years. Then the Constitutional Court can be operative all the time. TheEuropean Court o Human Rights at the Council o Europe in Strasbourg oers a vital check on the ef-cacy and quality o Ukrainian courts. The Ukrainian judiciary system should make ull use o this correc-tive to investigate corruption or other miscarriage o justice in the country.

Recommendations

1. Judicial reorm has long been started, but it needs to be completed. A ull set o updated andwell-coordinated procedural codes are necessary. The judicial division o labor and hierarchymust be claried. All judgments should be published on the web and the Single State Registero Court Judgments must be considerably improved. Courts and judges require sufcientnancing.

2. The Law on Judicial System and Status o Judges should be rened and adopted. Training and se-lection o judges need to be improved, being made more transparent and meritocratic.

3. A package o bills should be submitted to the parliament on reorming criminal justice and legalaid(Code o Criminal Procedure, new edition); amendments to the Criminal Code on introduc-tion o criminal oences; the Law on Prosecutors Ofce (new edition); the Law on PrejudicialInquiry Bodies; the Law on the Bar (new edition); and the Law on Free Legal Aid.


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A Realistic Anti-Corruption Program

Corruption means the private sale o public services, which distorts the unctioning o the state. A highlevel o corruption can jeopardize the outcome o the best institutional reorms. In Ukraine, this prob-lem is especially severe because o its Soviet past and the protracted post-Soviet chaos that ollowed

the slow reorms. The situation is dire, as shown by the anti-corruption watchdog Transparency Interna-tional, which ranked Ukraine 146 out o 180 countries on its 2009 corruption perception index.

Pervasive corruption cannot be beaten in one single blowjailing the main culpritsbecauseendemic corruption is a way o living and doing business. It is rooted in the incentives citizens and of-cials ace. No society is ree o corruption. Only through a large number o measures can corruption becontrolled. The main eort must be institutional reorm o the state rom the top, establishing an ef-cient organization o the state, as suggested above. These reorms should not only halt the growth ocorruption but also actually shrink these practices. At the same time, the reorms should be accompa-nied by systemic, specialized corruption-preventing measures as well as punishment or corruptpractices.

The Law on the Basics o Corruption Prevention and Combating determines the main principlesor overcoming the conict o interests and nancial control o civil servants, but this law cannot be veryeective without changes in a row o other legal acts concerning selection o applicants or public jobs,monitoring o their incomes, and so on. The 2006 presidential Concept o Combating Corruption on theWay to Integritysuggests suitable preventive measures, concerning selection o civil servants, their ca-reer development, salaries, and disciplinary responsibility.

Create an Anti-Corruption Bureau. While law enorcement must not be the main measure, it cannotbe excluded. A special anti-corruption body, an Anti-Corruption Bureau, should be created to combatcorruption. It must possess a great deal o independence, integrity, and resources. Its responsibilityshould be to eectively coordinate a comprehensive anti-corruption program, ocused on transparency,

accountability, deregulation, due process and the orderly unctioning o government. Investigation ocorrupt activities o top ofcials and prosecution o them however, should be let to the police Given thepervasiveness o corruption, extremely severe sentences or corruption should be avoided, since itwould only increase the level o bribery and public reluctance to report extortion. Oten, it is more im-portant that corruption is publicly exposed and the culprit subjected to shame than severely punishingthe culprit. Thereore, inormation campaigns best carried out by ree media may be more eective thansentencing corrupt ofcials, but it must also be clear that the law has some teeth and that corruptioncan lead to prison sentences.

Recommendation

Ukraine should orm an independent Anti-Corruption Bureau with great integrity to eectively coor-dinate a comprehensive anti-corruption program, ocused on transparency, accountability, de-regulation, due process and the orderly unctioning o government. For this purpose, a Law onAnti-Corruption Bureau should be adopted.

Constitutional Reorm

The Constitution o Ukraine has several shortcomings. The undamental problem is that the division opower between the supreme bodies o state poweris very diuse. As a consequence, independentUkraine has suered rom persistent strie between president, prime minister, and parliament over theirpowers, which has led to political gridlock, little and poor legislation, an inefcient central executive,and a weak judiciary. It has also made it difcult to carry out administrative-territorial reorm to orm lo-cal and regional sel-governance.


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The amendments to the Constitution in 2004 weakened presidential powers but aggravated thedivision o power and the stalemate between the dierent branches o state powers. The state cannotunction well without eective organization, which requires clear constitutional principles. These rulescan change in several ways. These prooundly political choices go beyond the scope o this expert com-mission, but they need to be resolved or the successul unctioning o the state.


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ChapTer 3

MaCroeConoMIC polICy:

howTo sTabIlIze UkraInes fInanCes

During the years o 2000-2007, Ukraine enjoyed high economic growth and reasonable stability, but inthe ourth quarter o 2008 a severe nancial crisis hit Ukraine hard, with GDP anticipated to decline byno less than 14 percent in 2009.

Today, Ukraine has overcome the worst o the crisis, and it is desirable to draw lessons rom thisepisode and to consider how to conduct macroeconomic policy in the uture. A rst objective should beto identiy the causes o the crisis so that Ukraine becomes more resilient to any new nancial crisis.Second, the crisis has caused substantial problems, most notably the deterioration o public nances,

which must now be addressed. Third, the speed and scale o the economic decline has been exacerbat-ed by the continuing lack o structural and institutional reorms.

In the medium term Ukraines economic policy will be determined by the necessity to cope withthe atereects o the crisis and the need to secure stable growth over the long run, which will requirestructural and institutional reorms. In other words, uture economic policies will consist o two maincomponents. The rst can be called the anti-crisis component. It will include measures dealing withmonetary and exchange rate policies, scal policy, government debt and various distortions stemmingrom the crisis and state intervention. The second component is a strategic one, dealing with the neces-sary structural and institutional reorms to secure stable economic growth in the long run. Combiningthe two components in a balanced way will be a challenging task or the government.

Economic policy in the short run should be based on a clear understanding that the recentlyachieved stability and early signs o economic recovery remain ragile. Monitoring o national economicdevelopments needs to be reinorced to detect and identiy problems early on, making it possible orthe authorities to react appropriately to them. For the same reason, economic policy should be basedon realistic orecasts o no more than a moderate economic recovery in Ukraine, implying severe limita-tions on the countrys ability to meet its nancing needs. Hence, cutting government expenditure isinescapable.

Ukraines reaction to the crisis should not be restricted to launching measures to improve its cur-rent economic situation but should also include reorms to secure the oundations or sustainable long-term growth. These policies should take into account elements such as a major rethinking o the role o

the state in the economy, the appropriate degree and ormat o state regulation, and orms o state sup-port or specic industries. The present circumstances are very challenging or the authorities, but at thesame time they provide an all-important opportunity or implementing a set o reorms that could last-ingly improve Ukraines economic position.

Causes o the Economic Crisis in Ukraine

The blow to the economy was very sudden. As late as August 2008 the Ukrainian economy was boom-ing, at an annualized growth rate o 11 percent, but output plummeted in October. By internationalcomparison, only the three Baltic countries aced larger declines in GDP in 2009 than Ukraine. This raisesthe question why Ukraine was hit so hard by the crisis.

The immediate cause o the economic crisis in Ukraine was international contagion stemmingrom the global nancial crisis. Ukraine was eectively cut-o rom international nancial markets aterglobal liquidity dried up in September 2008 ollowing the bankruptcy o Lehman Brothers. This is known


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as a sudden stop, with nobody in the private sector wanting to oer Ukraine any orm o nancing un-der any circumstances. The only available source o nancing was rom the IMF and other internationalnancial institutions (World Bank and European Bank or Reconstruction and Development, EBRD).

The reason why Ukraine was hit much harder than almost all other countries was that the interna-

tional nancial community had no condence in Ukraines economic policy. An overheated economyhad stoked ination, which reached a peak o 31 percent on an annual basis in May 2008. Large currencyinows, which contributed to huge increases in the money supply, helped to sustain high ination. Im-ports soared, eventually leading to an unsustainable decit on the current account o the balance opayments o more than 7 percent o GDP in 2008. At the same time Ukraines oreign debt rapidly accu-mulated to $103 billion, or 57 percent o GDP in 2008, adding to the countrys vulnerability.

The undamental cause o Ukraines nancial crisis was that the National Bank o Ukraine (NBU)kept the hryvnia de acto pegged to the US dollar under circumstances that called or a change in theexchange rate regime. Ukraine was caught in the impossible trinity o trying to combine a xed ex-change rate, ree capital ows and an independent monetary policy, but i the exchange rate is xedand capital moves relatively reely, a country cannot pursue an independent monetary policy, becausea tightening o monetary policy by raising interest rates will attract capital inows, rather than coolingthe economy. An example may illustrate this process. Commercial banks in Ukraine could borrow at 6percent in euros, while they could charge interest o over 50 per cent or certain consumer loans in hryv-nia, thanks to a xed exchange rate. Moreover, the NBU maintained a negative real renancing ratewhich urther stimulated monetary expansion.

Three additional actors rendered Ukraine vulnerable. First, unlike many Eastern European coun-tries, Ukraine is not a member o the European Union and enjoys no neighborly protection. Second,Ukraine is highly dependent on cyclical steel exports, and it aced a sudden deterioration o its terms otrade. Third, oreign investors have little condence in Ukraines policymaking. Its messy politics singledit out as one o the rst victims among emerging markets o the international nancial crisis.

One o the most serious consequences o the crisis has been the dramatic deterioration o Ukrainespublic nances. Traditionally Ukraine ran a small budget decit o around 1 percent o GDP which keptits public debt at a modest level, but the deep crisis led the decit to reach around 8.5 percent o GDP in2009. This unsustainable scal position needs to be remedied and public nances to be placed on asound ooting over time.

In sum, Ukrai

independent int e r n at i

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