Endemic corruption and state capture remain Ukraine’s most critical domestic challenges. After years of Western-assisted reforms and institution-building, the country has not yet turned the corner in cleaning up its business, administrative and political spheres.
In a nutshell
- Corruption and state capture continue to make Ukraine a development laggard
- Extensive, Western-assisted efforts to free Ukraine from its oligarchs’ grip have produced limited results
- The Zelenskiy government pays lip service to change but eliminates reformers from strategic positions
Three decades after it declared independence from the dying Soviet Union, Ukraine has become one of the poorest countries in Europe, if not the most destitute. Its economic growth performance has been among the weakest of the 15 states that formed the Soviet Union. And recent developments suggest this is not going to change any time soon. A milestone of some importance was reached on April 28, when the government decided to sack the CEO of the largest national oil and gas company, Naftogaz.
As the company’s performance during 2020 had left much to be desired, the change in leadership might not have seemed far out of the ordinary. But closer consideration shows that more fundamental issues were at play. At stake was nothing less than whether the government would be able to live up to its international commitments to curb endemic corruption, an endeavor where Naftogaz features prominently.
Although the media have been understandably focused on the conflict with Russia, the rot of corruption is arguably a more fundamental long-term problem to Ukraine than Russian harassment. When the country set out on its own in 1991, it had roughly the same gross domestic product (GDP) per capita as neighboring Poland. Had successive governments in Kiev proven capable of pursuing economic transformation policies like those imposed by Warsaw, then the country would not have ended up so deeply vulnerable to Russian pressure.
A case in point is energy policy. A market-oriented pricing policy, where prices cover the long-run marginal cost, could have boosted domestic gas production and increased energy efficiency. Combined with energy conservation, this could have drastically reduced if not eliminated the country’s dependence on Russian gas.
The moneymaking strategy has been to ensure that domestic prices of gas are kept absurdly low.
The reason why it did not happen and why Ukraine, in consequence, ended up the victim of repeated “gas wars” goes to the core of the problem of endemic corruption. From the outset of independence, Ukrainian governments operating in cahoots with well-connected oligarchs have pursued a policy of state capture where formal rulemaking and rule-enforcement are geared toward supporting personal gain.
The moneymaking strategy has been to ensure that domestic prices of gas are kept absurdly low. The policy has allowed oligarchs to convert cheap gas into massive profits in energy-intensive undertakings like aluminum production, at the cost of discouraging both energy conservation and investment in additional gas extraction. A window of opportunity for change opened with the 2014 Revolution of Dignity, which also set the stage for an all-out confrontation with Russia.
The collapse of the profoundly corrupt regime of President Viktor Yanukovych (2010-2014) provided a chance for the new government to implement changes that could have transformed the country. Given the crucial role of Naftogaz in feeding the networks of corruption, the company required solid new leadership. The man chosen for this task was Andriy Kobolyev, a manager with impeccable credentials.
He had international finance experience from working for PricewaterhouseCoopers, and knew the gas industry, having worked for Naftogaz. Under his stewardship as CEO, the company was purged of corruption. Improved corporate governance transformed Naftogaz from a drain on the state budget to the provider of more than 10 percent of state revenue. The company implemented the European Union’s demands of “unbundling” by setting up the Gas Transmission System Operator of Ukraine to run the country’s pipeline network. Given that the government meanwhile took steps to increase the price of gas radically, Naftogaz was becoming a showcase of successful reform.
Mr. Kobolyev could succeed because he was shielded from interference by various vested interests due to the introduction of a supervisory board protected by law. The appointment of foreign experts to serve on this board was viewed by Western governments as an essential safeguard of transparency and accountability. But this success would not last long. How Mr. Kobolyev was sacked speaks volumes about Ukraine’s prospects for reform.
Hell-bent on increasing government control over Naftogaz and getting access to its financial reserves, Prime Minister Denys Shmyhal opted to suspend its supervisory board for two days. He then used the 48-hour window to replace Mr. Kobolyev with Yuriy Vitrenko, acting energy minister. In response to this violation of international commitments, all but one member of the supervisory board resigned in protest.
For the nation, the costs of this maneuver will not be limited to the cancellation of a pending Eurobond issue, foreign investors walking away from energy exploration deals and a drop in tax revenue. The most devastating damage will result from casting doubt on whether the new gas transport regime really can be trusted to allow safe transit and storage of gas in Ukraine. This development provided an unexpected gift to the Kremlin, which has long used the unreliability argument to defend its controversial Nord Stream 2 pipeline.
The scheming that marked the Naftogaz scandal has also appeared in other parts of the struggle to curb corruption.
The scandal surrounding Naftogaz will have repercussions for other state-owned enterprises where supervisory boards have been viewed as effective shields for reform-minded management teams. And it will cast doubts on how much can be gained by appointing expatriate experts to key positions.
In their relations with successive Ukrainian governments, Western governments explicitly linked economic and military assistance to reform progress. Foreign pundits have been vocal in conjuring up scenarios of all the good things that would follow, and optimism has blossomed with the appointment of foreign experts, many, albeit not all, of Ukrainian extraction.
An outstanding example is the American-born Ukrainian investment banker Natalie Jaresko, appointed finance minister in December 2014, who was instrumental in finding deals that prevented sovereign default. Others are the foreign experts appointed to the Naftogaz Supervisory Board. But Ms. Jaresko lasted only until April 2016, and the Naftogaz board has suffered repeated resignations in protest.
The scheming that marked the Naftogaz scandal has also appeared in other parts of the struggle to curb corruption. The country’s Prosecutor-General Office, which should have risen in defense of good governance rules, has been captured and failed to act. Reformers have responded by creating alternative bodies, such as the National Anti-Corruption Bureau of Ukraine (NABU) and the Specialized Anti-Corruption Prosecutor’s Office (SAPO).
As before in the case of Naftogaz, the new setup has had a good run. A fair number of corrupt officials and politicians have been caught. The key, again, has been that SAPO is shielded from undue interference. It oversees investigations by NABU and may initiate prosecutions. This demonstrated effectiveness explains why the selection of a new head for SAPO has dragged on for more than a year, as vested interests have obstructed the appointment of a person they cannot control.
On October 9, the selection committee again failed to move forward. As three members appointed by parliament did not turn up, it could not reach a quorum. In a joint statement, the U.S. and the EU described the latest delay as “incomprehensible and unjustified.” While it may indeed be viewed as unjustified, it is very far from being incomprehensible. It is, in fact, utterly predictable.
Another case concerns judicial reform, viewed as essential to cleaning up the country’s court system. During the summer of 2021, parliament passed two reform bills that Western governments praised. But the implementation process stalled as the Council of Judges has dragged its feet on appointing members to the panel that will vet judges. The sensitive issue again concerns the appointment of foreign experts, believed to be necessary to break the stranglehold of the oligarchs.
Weakness at the top
President Volodymyr Zelenskiy made the matter of judicial reform a priority, and he has not been shy lashing out against corruption, claiming that “We are building a country without oligarchs.” On September 22, only days before his bill to curb the oligarchs was to be debated in parliament, one of the president’s top aides, Serhiy Shefir, barely survived an assassination attempt. Bullets riddled his car; a powerful message had been sent.
President Zelenskiy has ample reason to be concerned. He was elected in April 2019 in a landslide victory with three-quarters of the votes. Enthused by prospects for change, the younger generation of Ukrainians propelled him forward. The country was agog with hopes for better things ahead.
The business of standing by Ukraine’s now part of a domestic agenda in the West.
The power of the Zelenskiy campaign came from his two solemn promises – to end the war in Donbas and crack down hard on corruption. Neither has materialized. The low-intensity war with Russia continues, and corruption remains a festering sore, seriously hampering any ambition to revive the stagnating economy and improve living standards.
The absence of progress in settling the conflicts over Crimea and Donbas is not surprising. It was clear from the outset that Ukraine was a mere pawn in a fundamental contest between Russia and the West. The essence of diplomatic activities glibly advertised under such names as “Normandy Format” or the “Minsk Process” has been to allow the Kremlin to play the games of denial and divide and conquer.
Facts & figures
- In the post-Soviet world, oligarchs became super-rich mainly in the 1990s by buying privatized state assets for cheap; today, they own lucrative monopolies. Nowhere are oligarchs as dominant in economy and politics as in Ukraine. Many have their own political parties, supportive television stations, and scores of judges and senior civil servants standing ready to do their bidding.
- On Nov. 6, 2021, Ukrainian President Zelenskiy signed a law designed to curb oligarch influence.
- The state will designate individuals as “oligarchs” based on criteria that include “significant” influence on the media and politics. The designees will be prohibited from sponsoring political parties and participating in the privatization of big state companies.
- “There will be no influence on mass media, no influence on politics, no influence on officials,” the president said of the legislation. “But if there is influence, then these people will get a ticket called ‘oligarch.’ They will be included in a special register, and then this big business may lose a great share of its assets,” he explained. The law is to take effect in 2022. As of 2021, among Ukraine’s wealthiest and most powerful oligarchs are:
- Rinat Akhmetov, est. worth – $7.7 billion. A coal miner’s son, he is believed to be Ukraine’s richest man. His holding company, System Capital Management, oversees his stakes in a variety of businesses, mainly industrial. He owns a stake in mining and steel firm Metinvest Group, one of the largest private companies in Ukraine and invested in energy through DTEK, a firm with coal mines, thermal power generation and the country’s largest wind farm. He also owns companies in telecom, engineering, finance, real estate, transportation and retail. He is president of the soccer club Shakhtar Donetsk FC. His influence in the Russian-speaking east makes his political position particularly strong. When in London, he lives at One Hyde Park.
- Victor Pinchuk, est. worth – $3.2 billion. The son-in-law of former president Kuchma made his money in mining and steel pipes. Known for financing Tony Blair’s Faith Foundation. The collapse of his Russian insurance company and charges that he engaged in dumping in the U.S. and Russia dented his fortune. However, he still is considered Ukraine’s second-richest man.
- Igor Kolomoisky, est. worth – $1.8 billion. Cofounded (with Henadiy Boholyubov, estimated to be worth $1.7 billion) PrivatBank in the early 1990s that at some point held more than a third of private deposits and served approximately half of Ukraine’s population. Perhaps Ukraine’s best-known oligarch, notoriously coarse in language and blunt in his methods. He and his family are barred from entering the U.S. In March 2015, he was forced to step down as governor of the Dnipropetrovsk region. In 2016, Ukraine’s government nationalized PrivatBank after $4.5bn went missing from its balance sheet. In 2017, a London court ordered a freeze on some $2.5 billion worth of assets held by owner of the bank.
- Petro Poroshenko, est. worth – $1.6 billion. The candy shop tycoon made his fortune trading cocoa beans before diversifying into media; his best-known holdings are the candymaker Roshen and media outlet Channel 5. Ukraine’s president from 2014 to 2019, doggedly stuck to his pro-EU line in the teeth of opposition. Remains popular and politically active in Ukraine and the EU. The anti-oligarch legislation might also aim to prevent him from taking on President Zelenskiy in an election rematch in 2024.
- Viktor Medvedchuk, est. worth – $1 billion. Between 2002 and 2005, chief of staff to former Ukrainian President Kuchma. He owns a variety of media outlets in the country. A “personal friend” of Russia's President Vladimir Putin (who is godfather to his daughter Daryna), and head of pro-Russian political parties and organizations, he has long been seen in Ukrainian political circles as a crucial communication channel with the Kremlin. With President Zelenskiy making little progress in talks with Russia, however, the calculus has changed. Targeted in the president’s anti-oligarch campaign, in May 2021 he was charged with treason and put under house arrest.
- Dmytro Firtash, est. worth – $500 million. He built his wealth in the natural gas industry, the source of several of Ukraine’s largest fortunes. His fights with Yulia Tymoshenko over gas interests are legendary. Expanded into fertilizers, titanium, banking, real estate, and media, among other businesses. The value of his fortune decreased in the past few years. No longer a billionaire, he remains one of Ukraine’s most prominent figures. He is seen as a front for other partners, including President Putin and his circle. He reportedly considers London his second home and owns a house near Harrods with an underground swimming pool.
Source: Forbes, BBC, the Guardian
The problem with the events following this script is that, by now, it has become all too familiar. The business of standing by Ukraine is now part of a domestic agenda in the West; it helps build careers and raise funds for think tanks. But it falls way short of mustering the “effective support at the international level” that President Zelenskiy has been soliciting.
On October 12, EU bigwigs, including the heads of the European Commission and the European Council, met with President Zelenskiy in Kiev. The occasion was the 23rd Ukraine-EU Summit, and the official communique exuded the usual flavors of EU sympathy and support. In the run-up to the event, the EU’s foreign policy head, Josep Borrell, projected good cheer by assuring that the EU leaders would reiterate their “full support” for Ukraine’s territorial integrity and sovereignty and “continued and effective support to the ongoing reform progress.”
Admittedly, the presence of powerful business tycoons with massive wealth and intimate political connections has become a general hallmark of postcommunist development. The oligarchy in Ukraine nevertheless stands out in its power to obstruct reforms and bend government policy to suit its own interests. No amount of Western moral posturing looks set to change this sad fact, which weakens the nation and plays straight into the hands of the Kremlin.
The most recent installment of the West’s ritual posturing is the “Crimean Platform.” Launched by President Zelenskiy at the UN General Assembly in September 2020 and endorsed by the EU shortly after, the initiative made a big splash at its debut in Kiev on August 23, 2021. Envoys from 45 invited governments representing the United States, the United Kingdom and all members of the EU listened politely as President Zelenskiy emphasized that Crimea, together with Ukraine, must become part of Europe. “For this we will use all possible political, legal, and, first and foremost, diplomatic means,” he promised.