Ukraine Doubles Down, Uses Money Owed to Creditors to Fund War

Ukraine’s now all but inevitable default and the diplomatic moves to ease tensions between the U.S. and Russia have received an almost euphoric reception in some quarters.

Some think these point to peace in Ukraine, hoping Ukraine's government will either shortly collapse or will be forced by these events to seek peace.

Such optimism is misplaced.

Ukraine’s default will not cause the fall of the Ukrainian government. Nor will it end the war, any more than the diplomatic moves between the U.S. and Russia will.

We would repeat something we said in our discussion of the latest U.S. Russia diplomatic moves (Kerry in Sochi: Better Relations Between Moscow and Washington - No Peace in Ukraine, Russia Insider, 18th May 2015):

"The Putin Kerry talks are in fact far more likely to accelerate the resumption of the war than to end it.  

"Given that for the Ukrainian government retreat is impossible, the almost irresistible temptation, if it senses U.S. and Western support is weakening, will be to double down and renew the war so as to try to rally Western support by blaming Russia."

So it is proving.

Ukraine’s response to Kerry’s meetings with Putin and Lavrov has been to increase the level of its attacks.

Latest reports speak of intensified shelling of the area of Donetsk close to the airport and of the town of Gorlovka. It appears the shelling is the heaviest these areas have seen since the February ceasefire.

The rhetoric coming out of Kiev is also exactly as predicted.  President Poroshenko called on 20th May 2015 for tougher sanctions on Russia “if the Minsk agreements were not implemented” -- a call echoed by the secretary of Ukraine’s National Security and Defence Council, Aleksander Turchynov, who is reported to have said:

"The threat to the world that emanates from Russia today requires an appropriate reaction and active steps. I believe it would make sense to think about expanding the sanctions by blocking the passage of their warships through the Bosporus, disconnecting the Russian financial system from the SWIFT system for supporting and financing both aggressive nuclear programs and terrorists, and also other effective actions."

The prospect of default, and the country’s deteriorating economic situation, are also likely to push Ukraine’s leaders towards more war.

A point that has been largely overlooked is that one of the reasons Ukraine is giving for suspending payment of its debts is that payments to its international creditors equal the amount Ukraine is spending on the war. 

The relevant sentence in the Statement announcing the debt moratorium reads as follows:

"[T]he state budget for 2015 contains equal sum for servicing the debt with that of total expenditure on defence and law enforcement – over 9 billion hryvnias each."

Expenditure on “defence and law enforcement” in the Ukrainian context means expenditure on the war.  

When the Ukrainian government therefore says in the next sentence of the Statement “the Government has the right to direct the funds paid by taxpayers in Ukraine for the needs of its citizens instead of refunding loans having borrowed by the kleptocratic Yanukovych’s regime,” what it is really saying is that the Ukrainian government has the “right” to re direct funds that were previously being paid to Ukraine’s creditors to finance the war.

That in fact is exactly what Ukraine is doing.  

On the very same day Ukraine passed the law authorising a moratorium on its debt payments, it doubled defence spending to 17 billion hryvnias.  

The increase is 8 billion hryvnias - almost exactly the same amount as the 9 billion hryvnias the Ukrainian government said in its statement it was paying before the moratorium to its creditors.

As to prospects for the Ukrainian government’s collapse, we would refer to what we said in October following the parliamentary elections (see Western Media Get Ukraine Elections Wrong. There's Big Trouble Ahead, Russia Insider,31st October 2014):

"Despite the infighting among Ukraine’s leaders (which often results in actual fistfights in the legislature) it’s doubtful that the collapse of the regime is imminent or that the fragile peace in the east has been secured. 

"The consistent pattern since the 2004 Orange Revolution is that inter-factional fighting and the narrowing of the political base has led to further radicalisation. 

"The regime retains a core of popular support in the country’s western regions and in Kiev. Having seized power violently and having ruled violently, this is not a regime that will compromise easily or pass away quietly."

Since we wrote that in October opinion polls show the popularity of the Ukrainian government has plummeted.  

However what we said in October still holds.  

The Ukrainian government still has enough support in the western regions and in Kiev to hold on, especially given the violence it is prepared to use against its opponents. The fall in its popularity will simply make it more radical, as it falls back on the most nationalistic sections of its base, driving it to try to rally support from the rest of the population by mobilising it through war.

Ukraine’s conflict is nowhere close to ending. On the contrary, in the short term at least, all the indicators point to more war coming.