OpenCanada.org

Canada's Hub for International Affairs

Roundtable

BLOGGING FOREIGN POLICY

Obstacles to Independence in Quebec

If the PQ wins the Quebec provincial election, the party will face serious international challenges in holding a referendum.
| April 1, 2014
Quebec Premier Pauline Marois

The Quebec provincial election has re-awoken deep-seated fears across Canada that another referendum might soon be on our doorstep.

The possibility that Pauline Marois and the Parti Quebecois (PQ) will be elected to a majority government on 7 April is far from a given; recent polls indicate that the Liberal Party of Quebec, led by Philippe Couillard, is currently pulling ahead by a wide margin.

Nevertheless, in the case of a PQ majority, Canadians both inside and outside of Quebec would do well to consider several international challenges that will profoundly impact, if not contain or restrict, the PQ’s ultimate quest to make Quebec a sovereign country. More …

The most obvious challenge is the upcoming referendum on independence in Scotland scheduled to take place on 18 September of this year. Unlike the two past Quebec referendums (in 1980 and 1995) where the PQ posed obfuscating questions to the citizens of the province, the Scots will be posing a remarkably clear question: ‘Should Scotland be an independent country?’ 

During this election, Philippe Couillard challenged Pauline Marois to promise Quebeckers that she would pose a straightforward question like the one agreed to between the Scottish Parliament and London if a third referendum on Quebec independence were ever to come to pass. She refused to comment. 

The Scottish referendum question (saying nothing of Canada’s Clarity Act) will impose limitations on the liberty of obfuscation employed by the PQ in the past.

Another key challenge being exposed by Scotland’s planned referendum is that very few national governments or supranational bodies such as the European Union appear to be excited about separatism as an international norm.  The PQ will find many states in the European Union—where the impulse in the post-WWII era has been to build and foster political and economic unions, not break them—to be less than enthusiastic about its secessionist project.

The other international elephant in the room is how Washington would react to Quebec’s third referendum in less than fifty years. Recently, former U.S. President Bill Clinton released documents from his personal library that highlighted in 1995 that Washington had some reservations about immediately recognizing Quebec in the wake of referendum victory or of guaranteeing it would automatically be included in the North America Free Trade Agreement. “The ties between our two countries have been carefully cultivated and we should not take for granted that a new entity would have exactly the same kind of ties” was the message imparted as official speaking notes. It would be naïve to believe Washington’s future policy regarding another Quebec referendum campaign would be any different. Now that it has been made public, it is much more difficult to ignore.

But looking to the future, potentially the most freighting international challenge to Quebec’s independence movement could be France. Rumours have been swirling for some time that former President Nicholas Sarkozy will attempt to unseat the deeply unpopular François Hollande in the next presidential election in 2017.

The PQ has always operated under the assumption that Paris would automatically and without reservation be the first member of the UN Security Council to recognize Quebec as an independent country, even if the referendum was won by a simple majority of one vote. 

However, Sarkozy is no De Gaulle and no friend of the PQ’s brand of identity politics. In 2009 he angered Quebec sovereigntists when he stated, “those who do not understand that, I don’t think they have understood the message of the Francophonie, the universal values we hold in Quebec as in France—the rejection of bigotry, the rejection of division, the rejection of self-confinement, the refusal to define one’s identity through fierce opposition to another.”

The PQ will need a lot of luck in the next week to win the Quebec election. Even should the party win, however, it will face many international challenges that will restrict its ability to achieve its ultimate goal of independence for Quebec.

NATO Unimpressive?

| March 27, 2014
NATO

Despite a recent article declaring otherwise, the cuts to NATO’s are less of a crisis than they might immediately appear. To suggest otherwise is more rhetoric, more panic, and less insight.  Yes, the cuts are problematic as they are uncoordinated and very much un-Smart Defense. But some perspective is badly needed.

Yes, there is less American military hardware in Europe now.  But Russia is also still further away from the places that the United States and NATO guarantee collective security via Article V of the NATO treaty than during the Cold War.  And Russia’s contemporary military is not on a par with the former USSR’s. More …

Most importantly, the United States, France, and the United Kingdom still have nuclear weapons, which are and always have been the key to deterrence mechanism in Europe.  Indeed, for most of the Cold War, nuclear missiles offset Soviet supremacy in conventional weapons and troop numbers.  These days, is Russia militarily supreme in Europe?  I am not so sure.  The Russian military has been far from impressive since the 1970s while the United States has demonstrated superior skill on a conventional battlefield – particularly in Iraq.  So, unless Russia tries to launch an insurgency, I think we are okay.

The reality is this is not about hardware, but about interests:

“The American people are not going to war with Russia over Ukraine, full stop,” a senior administration official said, echoing public comments by Mr. Obama.

It really is that simple.  The asymmetry of interests in Ukraine makes it abundantly clear that we cannot deter Russia now.  It is not about what we have but what we are willing to use.  This asymmetry attenuates the further one moves from East to West.  Following two world wars and the Cold War, Poland is now guaranteed its security by NATO members.  The Baltic States are a smidge harder to assure, but NATO has repeatedly acted to protect the reputation of the alliance.  That really is what motivated the operation in Bosnia in 1995, kept NATO together despite differences between its members during the Kosovo campaign, and kept everyone in Afghanistan far longer than one could otherwise reasonably expect.

The pattern is consistent – when NATO as an institution is under threat, the members do what they have to.  A threat to the Baltic States or to Poland would raise questions about the viability of NATO itself – and that serves as the tripwire for its intervention. 

So, before we worry that the United States and its allies are only spending two or three or six times as much as Russia, we need to look at the alliances, the commitments, and who is in and out.  By the way, whose power is added to Russia’s as it contemplates any potential aggression?  Oh, none.  That’s right – Russia has only weak supporters and no allies.

Argentina vs. its Creditors

| March 24, 2014
Argentina

Something slightly strange will happen at the U.S. Supreme Court today. It’s the deadline for amicus briefs in support of Argentina’s request to overturn lower court rulings that would force the country to service parts of the debt on which it defaulted in 2001. The strange thing is that governments to which Argentina owes money – and which are deeply frustrated with the country’s scofflaw ways – are likely to be among those filing briefs in its support.

They have good reason. If the Supreme Court rules against Argentina, it will effectively undo the settled conventions by which we restructure the debts of financially-distressed sovereigns. Every sovereign-debt restructuring negotiated in the past decade could be reopened. More …

Argentina’s $130 billion default was massive. It covered nearly 15% of all emerging-market debt then outstanding. Foreign-law bonds made up about $80 billion of the debt that went into default; those bonds issued under New York law are the focus of the current U.S. proceedings.

At present, countries, unlike people and corporations, lack a bankruptcy system that would let them start with a clean slate if they can’t pay their obligations. A decade ago, the International Monetary Fund (IMF) tried to build a Sovereign Debt Restructuring Mechanism (SDRM) into its operations – prompted in part by wrangling over Argentina’s default. In 2003, the SDRM was rejected as various countries were unwilling to cede the sovereignty necessary to make the SDRM work.

Left to its own devices, Argentina pursued an aggressive strategy to force its bondholders to concede to massive write-offs. In successive 2005 and 2010 debt swaps, Argentina offered foreign bondholders a two-thirds “haircut” (loss) on their impaired debt. Most of them eventually accepted, knowing that the likely alternative was to get nothing. A minority, however, representing about 7% of the defaulted debt – including thousands of Italian retail investors and a smattering of hedge funds – refused to participate in the swaps and have instead pursued full payment of their bonds.

The alternative to a haircut is a bloodbath

The main tactic of these “holdout” bondholders has been to pursue U.S. court judgments that would support seizure of Argentine sovereign assets outside the country. The Argentine government has been forced into some quirky responses. President Cristina Fernández de Kirchner, for example, avoids flying abroad on Argentine-owned jets because of the risk that they might be impounded, and in 2012, Argentina was forced to fight a temporary hold on its navy tall ship, the Libertad, that was docked in Ghana.

Today’s deadline, however, pertains to something different: a series of lower-court rulings that found that Argentina is violating the pari passu – Latin for “equal footing” or treatment – clauses in its defaulted bonds by making debt-service payments to the creditors that participated in the 2005 and 2010 restructurings. This in the U.S. courts’ bailiwick because the bonds still in default were issued under New York law and the debt service on the restructured bonds passes through payment systems in New York.

The reason this matters is that, in the absence of a sovereign bankruptcy system, exerting pressure on creditors to accept a haircut is the only way a country can deal with a debt load it can’t pay. If the Supreme Court upholds the lower courts’ rulings against Argentina, all countries will lose that leverage. The balance of power will be tipped strongly away from debtors toward their creditors; there will be little incentive for creditors to negotiate with troubled sovereigns. No wonder, then, that even governments to which Argentina owes money are expected to support its case.

Meanwhile, Argentina continues to play hardball. It announced last year that it would offer to swap its restructured New York-law bonds into domestic Argentine debt to move the related payment stream beyond the purview of U.S. courts.

There are better ways to address this situation. First, New York should pass laws to immunize its payments systems from attempts by holdout creditors to seize debt service on already restructured bonds. There’s good precedent for such action: Belgium immunized its Euroclear payments system around the turn of the century in response to a case against Peru; and Britain created walls in London a decade ago to stop similar actions by creditors against heavily-indebted poor countries.

Second, we need to help governments resolve their debt problems in a more proactive and consensual fashion. The investors pursuing Argentina have repeatedly indicated that they’re ready to negotiate with the country’s authorities. Let’s take them at their word. With Richard Gitlin, I’ve proposed the creation of a Sovereign Debt Forum (SDF) to provide a structured venue for these conversations.

After years of deficit spending to combat the 2008 global financial crisis and ensuing Great Recession, governments across the world are now heavily indebted. More debt crises are coming, and we can’t afford a repeat of the Argentine saga. Regardless of what the U.S. Supreme Court decides in the coming months, Argentina should be a prompt to make our approach to sovereign debt restructuring more robust.

A version of this post appeared on Quartz.

The Diplomatic Spat Between Rwanda and South Africa

| March 19, 2014
Diplomatic-Spat

The recent implication of the Rwandan government in the attempted assassination of former General Kayumba Nyamwasa in South Africa marks a new low in relations between the two southern African states. If this was not fitting into a concerning pattern of behaviour, Rwanda’s conduct would be striking in its boldness and it being a clear violation of international law.  Indeed, this has been the fourth time that intelligence agents with ties to Rwanda have tried to kill this political refugee in South Africa.  Moreover, speculation that the murder of another Kagame dissenter and former Rwandan spy chief, Colonel Patrick Karegyeya, at a Johannesburg hotel in late December 2013 was ordered by the Rwandan government are raising serious questions about the future direction of Kigali. More …

Given these developments, it seems reasonable that the South African government in Pretoria reacted by expelling five diplomats (four Rwandans and one Burundian) from the country and publicly calling to order the government in Kigali.  But what this episode clearly demonstrates is the complexity of the Rwanda-South Africa relationship that has been oscillating between friend and foe over the past decade.

Politically speaking, there has been a chill in the relationship since 2010 when one of the four attempted assassinations of General Nyamwasa resulted in South Africa President Zuma temporarily recalling his High Commissioner to Kigali.  The afore-mentioned political unease has been reinforced with South Africa playing an active role in the UN forces hunting the (traditionally) Rwandan-supported M23 rebels in the Democratic Republic of Congo. 

But while South Africa has rarely made such clear and public statements in the past—preferring instead to use diplomatic channels to address its concerns—the South African government has now taken the extraordinary step of publicly claiming that it has evidence that those seeking to assassinate General Nyamwasa are supported by President Kagame in Kigali.  Moreover, President Zuma’s staff has indicated that if it was not for diplomatic immunity, they would pursue attempted murder charges against the five expelled diplomats.

In response, Rwanda has escalated the crisis by reciprocating in-kind with the expulsion of six South African diplomats. Now, both High Commission’s are left with skeleton staff and are effectively unable to function. While both High Commissioner’s are still present in each country—diplomatic language for the countries are still talking—relations between these two states have all but ground to a halt.

But even as the two states are mired in a political crisis, South Africa and Rwanda are developing a burgeoning economic relationship. Rwanda has been an increasingly important destination for South African exports and foreign direct investment since 2010 and, according to South African trade statistic’s, exports to Rwanda have been growing steadily and accounted for approximately ZAR 300m in 2013 (CAD $30m). While this amount may seem small in Canadian terms, it is extremely valuable in the context Rwanda’s GDP of USD $7bn. On the investment side, too, South African enterprises have been gaining an important foot hold in Rwanda.  For example, the South African mobile phone provider, MTN, is considered one of the major telecom operations in Rwanda and a number of South African mining corporations are active in exploration and resource extraction.  

These economic ties might explain why the Justice and Constitutional Development Minister, Jeffrey Radebe, has been leading much of the public condemnation rather than one of the ministers who deals with foreign affairs or trade matters.

But while these economic interests are important, the repeated violation of South Africa’s sovereignty and security are highly problematic politically, morally, and lead to some serious questions concerning the democratic progress of Rwanda.

Moving forward, the abrogation of sovereignty and the political crisis in the region will continue as long as Kigali refuses to use regional and international legal procedures as avenues for extradition of those accused of various crimes. Amid the ongoing conflict in DRC involving various neighbouring states, the lack of trust between two of southern Africa’s main political players is troubling and worthy of constant vigilance.

Inconsistent Irredentism: The Limits of Greater Russia

| March 18, 2014
Putin

This morning, Vladimir Putin completed the second step of the Irredentism Two-Step: annexing Crimea after recognizing its independence yesterday.  The question moves from how credulous does Putin think the world is, after a blatantly sham referendum, to what next?  And there are two dynamics to consider: Russia’s irredentism and NATO’s future.

First, when we speak of irredentism, we refer to efforts to unify a “lost” territory inhabited by ethnic kin.  What Russia is doing today is irredentism.  Irredentism is almost always very controversial and almost always very costly because it usually requires war.  Countries do not give up pieces of themselves all that willingly and when they do, it is to create new countries, not give hunks of territory to their neighbours.  More …

Second, irredentism is often quite selective.  Hitler’s efforts to reunify the German speaking peoples of Europe, for example, suggested that irredentism is unrelenting.  The reality is more complex.  Somalia, for instance, was seen as incorrigibly irredentist for claiming the Somali-inhabited areas of Ethiopia, Djibouti, and Kenya in the 1960s.  But that was because the design of its early democracy led politicians to reach out to multiple groups, each having ties to some of the kin nearby.  In the 1970s, with a narrower set of supporters, the authoritarian regime focused solely on the Somalis of the Ogaden region in Ethiopia.  That lost war ultimately broke Somalia—irredentism can be inconsistent but is always costly. 

The importance of this is that we have to be concerned about Russia and its bullying of its neighbours, but we might not have to be so concerned about Eastern Ukraine being gobbled up next.  Why?  Because it does not combine the strategic interests, the relatively recent border changes, and previous separatism that define Russia interests in Crimea.  Irredentism tends to happen when there is log-rolling among different interest groups, such as the military/defence contractors, those with ethnic kin in Crimea, nationalists who care about past grievances, those hurt by greater international economic engagement and so on.  Other hunks of the Near Abroad are not so attractive (tasty?) for nationalists back in Moscow because they would involve incorporating more people, which means more voters and more social welfare expended elsewhere.

Indeed, the events in Crimea may worsen Russia’s identity crisis as not all Russians will agree that Russian nationalism requires enlarging the country to bring back “lost” Russians.  Moreover, there may be greater agreement on Crimea, but Russian nationalists will disagree about the value of other territory.  So, bottom line, don’t expect this to be the first annexation of many.  There may be others, but I am doubtful.

What is more certain?  That NATO’s latest existential crisis will fade.  One of the enduring truths of international relations going back to the ancient Greeks is that countries tend to respond to aggression by looking for allies as well as building up their defences.  Given austerity measures in Europe, the latter may be less likely, but the former is already happening.  That is, NATO is not going away, as its more eastern members will re-commit to the alliance.  The Baltics and Poland have been more enthusiastic members for quite a while (Estonia paid the highest price per capita of any NATO country in Afghanistan), and now the rest of the alliance is being reminded of its raison d’être.  Russia is not the Soviet Union, but it still represents the greatest threat to security in Europe.  Putin has made it abundantly clear that the institutions of Europe (such as the Helsinki agreement sanctifying boundaries) and the rules of democracy (such as non-sham elections) do not apply to Russia.  Consequently, Europe will have to use other tools to reassure their publics and NATO remains the most appropriate venue for this.

Herein lies a paradox, however. It is so very important not to extend NATO too far—guaranteeing the security of Ukraine or Georgia for example—as the collective security must be credible.  With that said, the fact that more NATO members are concerned does help to increase the value of the alliance both today and in the future. 

There is one remaining aspect of today’s reality that we must address—there is damned little that the U.S., Canada, and Europe can do to reverse this annexation.  Bargaining and coercion are all about stakes and interests, and Russia has far more skin in this game than anyone else.  Plus distance matters.  This is Russia’s backyard, and our fence starts at Poland’s borders.  We simply cannot risk World War III for Ukraine and Crimea.  Russia’s energy resources and Europe’s dependence on those resources make it very hard to punish Russia. 

Russia is already paying for this effort, as irredentism always involves costs.  Its economy has taken some hits due to sanctions and market reactions.  But politicians can promote costly policies if those costs hit people who have little power or who are distracted by the nationalism sauce du jour.  It is pretty clear that these costs are not going to be enough to compel Putin to reverse course.  We can continue to charge a price for this irredentist effort, but that is about all we can do. 

A Better Way to Handle Sovereign Debt Distress

| March 18, 2014
Foreign-Exchange

The Bank for International Settlements (BIS) announced on Monday that global debt markets grew to US$100 trillion at the end of 2013, up 40 percent since 2007. Governments accounted for two-thirds of this increase as policymakers borrowed to spend their way back to growth.

Fiscal stimulus was the right response to the Great Recession, but this mountain of debt is not going to be repaid. The last five decades have been marked by progressively more complicated and expensive financial meltdowns. J.P. Morgan CEO Jamie Dimon infamously cautioned in 2010 that we should expect crises “every five to seven years.” He’s right: more sovereign debt distress lies ahead. We need to get ready for them. More …

Although government bond markets in the European periphery have rallied since the beginning of 2014 and the US recovery has gained momentum, the global economy remains fragile.

As the US Federal Reserve has tapered its purchases of debt securities, the “wall of money” that moved into emerging markets a few years ago has receded back to advanced economies. No emerging country has been insulated from this financial riptide. In fact, some of the best governed and most liquid markets have borne the brunt of this retreat because exiting them is relatively easy.

Unlike past episodes of sovereign debt distress, however, both emerging and developed markets are vulnerable.

The International Monetary Fund (IMF) has warned that lower-than-expected inflation in the eurozone implies higher real interest rates and greater real debt burdens, which could dent demand, lower growth and push Europe into deflation—making its debt load even more onerous. Japan’s experience remains a cautionary tale: since it slipped into deflation in the mid-1990s, its public debt has ballooned from 80 percent of GDP to nearly 230 percent.

The ratio of debt to GDP across industrialized countries has increased by 30 percentage points since the onset of the crisis and now approaches 110 percent of GDP—well into the danger zone where governments typically encounter problems servicing their debt. This kind of increase happened twice during the 20th century. On both occasions the spike in debt was unwound quickly by subsequent growth spurts. That’s unlikely to happen now.

While exceptional monetary and fiscal stimulus is withdrawn, interest rates will trend higher than GDP growth rates. Reducing public debt ratios will then require more aggressive fiscal consolidation, which could further hurt growth. Ageing populations will push up spending and narrow tax bases, making the fiscal situation worse. In our forecasts, by the 2020s, gross public debt could, under reasonable assumptions, easily rise to 150 percent of GDP across advanced economies.

Yet, despite a history of sovereign defaults spanning 24 centuries from ancient Athens to the present, we still don’t have an effective and efficient system for dealing with governments in financial distress. As Petros Christodoulou, former head of Greece’s public debt office recently noted, “the system needs to be fixed. We should have a predictable framework for restructurings that ensures that other countries do not have to go through what Greece did.” Even after two restructurings and years of austerity, Greece’s debt is still not sustainable despite concerted support from the IMF and European institutions.

Over a decade ago, the IMF undertook a massive effort to build a Sovereign Debt Restructuring Mechanism (SDRM) into its operations. In 2003, the SDRM was rejected as several countries were unwilling to cede the sovereignty necessary to make the SDRM function. Work in this critical area was put on ice.

Recent experience shows, however, that the status quo is both inadequate for our current challenges and woefully under-gunned for the crises that lie ahead. The system has always been tipped toward cleaning up messes rather than preventing them.

After 24 centuries of business as usual, it’s time to do things differently.

In a 2013 policy paper, the IMF diagnosed the problem that needs to be solved: troubled governments wait too long to deal with their debt problems, which deepens their pain and limits their options when crises occur. When they finally bite the bullet and approach their creditors for assistance, sovereigns tend to agree to debt restructurings that are too modest in an effort to quickly regain access to financial markets.

While there’s no appetite for another big-bang reform like the SDRM, some modest changes could significantly improve the lot of distressed sovereigns.

Most importantly, we need to reduce the impediments to governments and their creditors proactively dealing with incipient crises. To do this, we’ve proposed the creation of a Sovereign Debt Forum (SDF) to provide a structured venue for early collaboration to prevent sovereign liquidity problems from developing into fully-blown defaults and to do ongoing research on future policy reforms.

We should also discuss ways to provide sovereigns with some breathing room to consider their options when crises develop. As Bank of Canada economists have advocated, governments should consider issuing bonds that automatically provide a hiatus from debt-service obligations when economic conditions sour—when, for instance, growth slows or export prices plummet.

Finally, we should consider ways to refine bond contracts so that the terms of a debt rescheduling can be made to stick once they have been agreed.

None of these initiatives would require negotiation of binding treaties, the creation of new multilateral organizations or onerous reforms to our existing bodies. They simply require a few governments to begin taking action.

Canada has a rare opportunity to lead change that’s been 24 centuries in the making.

This post was co-written with Richard Gitlin.

The Next Frontier for Sustainable Development

| March 12, 2014
Slum

When the Millennium Development Goals (MDGs) were first established nearly 15 years ago, the half-joke reminder among global health experts was that they needed to replace the “M” with a “B” when talking about financing – meaning the solutions required budgets in the order of billions rather than millions of dollars. Today, as the MDGs approach their 2015 deadline and the world negotiates a new global vision for sustainable development, the time has come to shift mindsets from “B” to “T”, since the next frontier is talking about trillions of dollars in required investment throughout the global economy. More …

To that end, members of the Global Agenda Council on Poverty and Sustainable Development released a report last week distilling key financing challenges to be addressed in establishing a new generation of global development goals. The reportPaying for Zero: Global Development Finance and the Post-2015 Agenda, stresses the crucial complementary roles and opportunities for public, private, and “blended” finance at the domestic and international levels. The word “zero” is used to signal a broad theme of transformation for sustainable development: eliminating extreme poverty, eliminating the most pernicious forms of inequality, and eliminating environmentally unsustainable economic activities.

Stressing ongoing generational shifts in the global development landscape, the report argues that ambitious post-2015 goals will require accompanying ambition and innovation in development finance. 

The conclusions tackle a wide range of issues, including: 

  • Development finance will increasingly be integrated across types. Flows from public finance will need to leverage additional private finance, and all forms of finance will need to adhere to common standards of transparency, measurement and reporting.
  • As many developing countries continue to make long-term economic gains, the process of graduation from official development assistance (ODA) needs very careful consideration. For example, emerging lower-middle-income countries, especially those with large numbers of extreme poor, should not face a stark drop-off in access to external finance.
  • It is crucial that the international community place special emphasis on protecting and enhancing properly-targeted ODA budgets. These will need to prioritize the poorest countries and programmes that most effectively reduce poverty. But even with complete success in eliminating extreme poverty by 2030, ODA will continue to play a crucial role tackling many deep global priorities through to 2030 and beyond.
  • Improving the capacity of developing countries to mobilize their own resources should be an important element of ODA, without imposing unwanted conditionalities.
  • Greatly enhanced instruments are needed to incentivize the amount and nature of required private finance post-2015. Big ticket investments in infrastructure, energy and agriculture will all require some degree of blending between public and private sources. 
  • Many of the infrastructure investments for sustainable development will be the same ones that determine the future of the world’s climate change mitigation and adaptation efforts.

A version of this article originally appeared on the blog of World Economic Forum. An earlier draft of the paper was circulated for public comment in January. The report’s release coincided with meetings of both the Intergovernmental Committee of Experts on Sustainable Development Financing and the Open Working Group on Sustainable Development Goals at the UN Headquarters in New York. The Global Agenda Council on Poverty and Sustainable Development brings together a variety of eminent leaders and practitioners from public, private and non-profit sectors around the world. 

Punishing Russia Isn’t Going to Fix Ukraine’s Economy

| March 11, 2014
Ukraine

The United States and the European Union both announced aid packages for Ukraine last week. But with the new government in Kiev struggling to clean house after the corrupt rule of Viktor Yanukovych and face down a belligerent Russia, the aid packages are too small and will disburse too slowly to provide the immediate help it needs.

Ukraine’s current crisis is typically miscast as a political conflict between East and West – between pro-Russian Yanukovych and Europhile opposition leader Yulia Tymoshenko; between the country’s Russian-speaking eastern regions and its Ukrainian-speaking western half; and between Russia and its old Cold War adversaries. These political clashes are, however, byproducts of a much more profound, long-simmering Ukrainian economic crisis that has been decades in the making. More …

Since its independence in 1991, Ukraine hasn’t been economically viable. Though it is one of the world’s top cereal producers, its manufacturing infrastructure is tired and its steel industry is obsolete. It adds to these woes by rigging its currency at artificially high levels, making consumer imports cheap, but exports uncompetitive.

The economy is also dangerously dependent on natural gas imports from Russia that power about 40% of Ukraine’s electricity production. The supply contracts for Russia’s natural gas provide a cover for massive corruption by Russian and Ukrainian interests, as Quartz’s Steve LeVine notes.

The problem is compounded by huge Ukrainian government subsidies: Kiev pays about 80% of the cost of Russian gas imports. In theory, it passes the remaining 20% on to consumers and businesses, but the government’s collection efforts are spotty.

As a result, the Ukrainian state has racked up debt equivalent to about 40% of GDP. That’s not massive compared with other troubled countries – Greece’s debt-to-GDP ratio exceeds 150% – but it’s more than Ukraine and most emerging markets can sustain.

Ukraine is living on borrowed time

Through the 1990s and early 2000s, foreign appetite for Ukrainian grain and steel kept the country afloat. But with the 2008 financial crisis, demand for Ukrainian exports crashed. Rather than adjusting their spending, successive Ukrainian governments flirted alternately with Russia and the West to paper over the country’s financial cracks.

With IMF support, the government set reform programs in motion in 2008 and 2010 to put the country on a sounder financial footing. But both IMF loans were suspended when Ukraine reneged on promised reforms. Accession talks with the European Union stalled. Kiev turned to Moscow for help, and replaced Western financing with $15 billion in support from Russia combined with $7 billion of natural gas discounts. All of that got pulled when Yanukovych fled office a few weeks ago.

Ukraine is now living on borrowed time. Around $20 billion in debt comes due over the next two years. That’s $20 billion the Ukrainian government can’t finance. Its other financing needs are murky: No-one trusts the Kiev authorities’ numbers. An IMF mission arrived in Kiev last week to set the facts straight, but it won’t report back to Washington for another week.

In any case, a crisis two decades in the making can’t be undone in the 18 to 36 months of a typical IMF-supported reform program. As for the American and European aid, it will also likely carry conditions the fledgling Ukrainian government can’t fulfill in the coming months. The government has already started slashing pensions and social spending to meet the West’s demands. Rather than shoring up the interim administration, this is a recipe for disaster ahead of May elections.

Kiev needs more money, and sooner

Ukraine needs more time to reform its economy and put it on a sustainable path. The West should make its offer of aid more realistic.

First, the U.S. and EU need to front-load their aid packages and make them richer. The American offer of $1 billion in loan guarantees would make only a dent in Ukraine’s financing needs. Europe’s $11 billion aid package would release only about $1.6 billion this year, and then only on agreement to widespread reforms and a deal with the IMF. To dispel any fear of a debt default and defer crippling spending cuts, the U.S. and Europe should offer Ukraine $20 billion over the next two years, of which $7 billion to $10 billion should be upfront in liquid non-project financing.

Second, the West needs to ensure that IMF money carries fewer strings and disburses faster than past loans. The Ukrainian government has requested $15 billion from the IMF, but this is likely to come in two parts: perhaps $1 billion under an emergency facility, with the rest over the next three years once Kiev has agreed to tough conditions.

Third, the West needs to open unilaterally and immediately its markets to Ukrainian goods by dropping tariff barriers.

Punishing Russia won’t achieve anything

Diplomatic isolation, asset freezes, and travel bans may be appropriate, but are unlikely to have much impact on Russia. Economic and financial sanctions that would actually bite aren’t credible. Russia does $100 billion in annual trade with Europe. One-third of European natural gas comes from Russia. The $3 billion in transit fees on that gas constitute Ukraine’s largest service export. And London’s banks house billions in oligarchs’ assets. Europe needs Russia and Vladimir Putin knows it.

Likewise, musings about the U.S. using its abundant shale gas or releases from its Strategic Petroleum Reserve (SPR) to drive down global energy prices and hurt Russia’s exports are fantasies. It will be years before the U.S. has the infrastructure needed to export its gas surplus. And SPR releases turn the screws on Russia only if OPEC, or at least the Saudis, check their production too.

Finally, helping Ukraine is diplomatically easier than sanctioning Russia. In contrast with the UN Security Council, where Russian and Chinese vetoes hamper action, the US and Europe have enough voting power on the IMF Executive Board to approve a large loan with few strings to Ukraine. They should use that power.

Solve Ukraine’s economic problems, and you stop Kiev’s oscillating tease between East and West. Help Ukraine’s emerging leaders make the country economically sustainable, and you make Ukraine a bridge between East and West rather than a flash point of tension. Henry Kissinger asks how the Ukraine crisis ends. The answer: When we start sending real money to Kiev.

This article originally appeared on Quartz.

Crimea’s Sham Referendum

| March 11, 2014
Crimean-Referendum

The language of the new Crimea Referendum makes Quebec’s referendums appear to be models of clarity. According to the Kyiv Post, voters in Crimea next Sunday will be asked whether they support the union of Crimea with Russia (an act of irredentism) or whether Crimea should be independent (secession). There is no alternative – one cannot vote for the status quo ante of remaining within Ukraine.

This would suggest that the referendum might just be a bit of a sham. More …

Well, we already knew that the referendum was going to be gamed, as Russia is keeping international observers out of Crimea, it has moved the date of the referendum from much later in the spring first to March 30, and now to March 16, and there is the detail of the occupation of Crimea by Russian troops. This is somewhat puzzling because it raises the question of why have a vote at all if the effort is devoid of any possible taint of legitimacy?

Certainly Vladimir Putin and his friends in Crimea are not concerned with impressing the international community with how free and fair this referendum will be. Otherwise, they might not be printing about 66 percent more ballots than needed (2.5 million ballots for 1.5 million Crimean voters). Mr. Putin may resort to the usual international organization for monitoring a sham election in the former Soviet space – the Commonwealth of Independent States – which has monitored past elections in Abhkazia, South Ossetia, and Trans-Dniester.

So, why bother with such a clearly illegitimate referendum? Authoritarian regimes have a long history of sham elections which provide some kind of domestic legitimacy to their rule. To be fair, Russia’s elections have not been shams. Those for who governs in Russia, anyway. For those who govern in the frozen conflicts? Not so much. Still, those who disrespect democracy still feel compelled to use the guise of democracy to appear less authoritarian and more legitimate. It may not play well outside of Russia, but it might do OK within.

Indeed, some scholars have found that these kind of elections can be used to scare the opposition. That is, holding such an event puts opponents in difficult positions, as the fakery may actually suggest that the government is strong, rather than weak. And this is quite the gamble, as faked elections can serve as focal points for political protest. And these protests can help to bring down governments (see Ukraine last month).

So, how to do win the gamble? For one thing, you put out a heap of propaganda like the billboards that appeared in Crimea this week, showing an outline of Crimea with a swastika on it beside an outline draped in the Russian flag, reading: “On March 16, we choose fascism in Crimea or Russian Crimea.”

There is some genuine support from some Crimean Russians for annexation with Russia, but it is pretty clear that the non-Russian population is not happy with this. Even some Russian-Crimeans might be aware of the reality that being a minor hunk of Russia may not be such a good deal.

There has been much disagreement about whether this whole crisis suggests that Mr. Putin is strong or weak. We will really not know until the shooting starts (will the Russian soldiers shoot?) or if protests break out after the sham referendum. It is clear that Putin is willing to gamble, as there are no certainties here. Everything else is even more unclear than the referendum’s wording.

A version of this post originally appeared in the Globe and Mail.

The Limits of Power: Crimea Edition

| March 4, 2014
Putin

This morning, Vladimir Putin held a press conference explaining Russia’s presence in Crimea that created more confusion than clarity. The Russian president seemed to be simultaneously pulling back and doubling down. I will let other Kremlinologists try to figure out what Putin meant and what he is likely to do.  I simply want to make the point that there is little that the U.S., Canada, and NATO can do about the situation in Ukraine.

It has taken a few days, but various folks are now reminding us that this is not about Obama being weak. This is about the West having few options. American officials did not roll back the Soviet Army after the Second World War, nor did any American president respond with force to Soviet interventions in East Germany, Hungary, Czechoslovakia, or Poland. No, Russia is not the Soviet Union, but the larger dynamic is the same: great power – which the U.S. still has – does not mean infinite capability. More …

That is to say that there are very few policy options on the table for the U.S. and NATO. How could they punish Russia? Given that Russia is a central player in so many dynamics, there is little it can be excluded from.  Europe is dependent on Russia for oil and gas, meaning their interdependence is uneven, with Russia probably having, in the short term at least, more of a hammer than the Europeans. The use of force is off the table because our interests in Ukraine, which are fairly modest strong, are not worth a war with Russia. 

Indeed, this is one core dynamic that cannot be overlooked – that Russia cares far, far more about Ukraine than the U.S./Canada/NATO does. The crises mentioned above were all in areas within the Soviet Union’s and then Russia’s sphere of influence – places where outcomes are vital to the national security. Sorry to say, Ukraine does not matter to the West in any real way.  The only way it would matter is if it was a member of NATO, which would mean that commitments would have to be kept.

While some are blaming the U.S. and NATO for not admitting Ukraine, I am not. This is partly because Ukraine at various points in time did not want to become a member, and NATO has never forced a country to become a member. But mostly I do not want Ukraine to be a member of NATO because I don’t think a commitment to it would ever be believable. Just as the U.S. could/would not come to the defence of Georgia, there are places in the world that are just too far away and too close to someone else for NATO to defend.

You do not have to be a realist scholar of international relations to recognize the limits of power and the impact of interests. In any bargaining situation, if there is a big difference in the stakes for the players, the one with higher stakes tends to win. They don’t have to demonstrate resolve because it is manifestly obvious.

The U.S. and its allies have pretty much done what they can do – show a united front, drop out of the G8 meeting, declare their frustration, and so on. They have offered an off-ramp for Russia with international monitors to protect the ethnic Russians (who do not seem to be in much danger).

Yes, it can be very frustrating, but there are real limits to power. Obama cannot wave a magic wand and shout “impedimenta” or “expelliarmus” at Putin to get Russia to withdraw from Crimea. That only works for Harry Potter. The bigger question right now is not what will happen in Washington or Brussels, but who might shoot or not shoot in Crimea.

Newer posts Older posts