Geoffrey York   Globe and Mail   06-Dec-1997   The Ukrainian government is plundering Ukraine, I

Embarrassment looms for Ukraine

Prestigious global meeting in May in Kiev could expose serious
inadequacies spawned by government corruption, bureaucracy.

Moscow Bureau

UKRAINE is only five months away from a public-relations disaster that could dramatically expose the corruption and rampant bureaucracy suffocating its fledgling economy.

Thousands of high-powered financiers and business leaders will descend on Kiev in early May for the annual meeting of the European Bank for Reconstruction and Development.  It's a prestigious event to serve as host, fiercely sought by countries keen to showcase their attractions for foreign investors.

There's just one problem. Despite years of preparation, Ukraine has been unable to build a single new hotel for the delegates.  An embarrassing fiasco is looming.  Delegates will be crammed into decrepit Soviet-era hotels, tiny cabins in temporarily docked river boats and the apartments of any Western diplomats who can spare an extra sofa.

Ukraine's parliament has frantically ordered more preparations.  But the biggest cause of the delays is a deep-rooted one.  Private developers cannot navigate the endless obstacles of Ukraine's entrenched bureaucracy.  Hotel development sites in prime locations have remained vacant for years while developers struggle to comply with ever-changing regulations and licence requirements.

The state construction commission, the major roadblock to any real-estate development, requires official licences for 845 different types of construction work.  Auditors recently concluded that only 29 of these licences were justified by law.

The rapid growth of licences and other regulations, beginning after Ukraine's independence in 1991, is one of the primary causes of corruption and stagnation.  Surveys of foreign investors show that Ukraine, Russia and several other former Soviet republics are widely regarded as among the most corrupt countries in the world.

Private businesses in Ukraine are spending an annual average of $37,000 on bribes, protection money and other "extralegal payments," according to recent surveys.  Company managers must spend 40 per cent of their working day in meetings with officials to "negotiate" licences and taxes.  By comparison, businesses in Lithuania are spending only 15 per cent of their time with officials, in Pakistan the figure is 12 per cent and in El Salvador 8 per cent.

Across Ukraine, licences are required for more than 100 separate economic activities "a virtually comprehensive list" of all possible activities, a World Bank study noted.  Only about one-third of these licences are justified for reasons of health, safety, environment or state security.  The licencing procedures often take several months to complete and can require extensive documentation and spending.

Ukraine's rampant bureaucracy, and the corruption that closely follows it, is not unusual in the former Soviet Union.  Most other former Soviet republics are as corrupt as Ukraine, investors say.  But as a result of several recent studies, bureaucratic corruption is better analyzed in Ukraine than in the other former Soviet republics, and Ukraine is rapidly emerging as a classic case study of how corruption can destroy an emerging market economy.

Corruption and excessive regulation are among the biggest reasons for the economic stagnation in the former Soviet Union, at a time when most Eastern European and Baltic countries are surging ahead with rapid growth.

There is widespread public cynicism about corruption.  About 70 per cent of Ukrainians say the government decision-making process is "corrupt and unfair," polls have found.

Equally alarming is the finding that younger Ukrainians tend to be more accepting of bribery than older Ukrainians possibly making corruption more entrenched in the future.

Perhaps the most surprising aspect of the surveys is the willingness of most businesses to acknowledge openly that they must pay bribes for every government service.

Based on a survey of 150 enterprises in five Ukrainian cities, here is the average bribe required for basic services: $1,250 to install a telephone line; $390 for an import licence; $295 for a border crossing; $125 for every visit by a tax inspector; and $60 for every visit by a health or fire inspector.  The average bribe for the same services in Russia is roughly similar, according to a poll of 50 Russian enterprises.

Even ordinary citizens must pay bribes.  One-fifth of ordinary Ukrainians say they had to pay bribes for basic government services.  Bribes were most commonly required by police and customs officials, but they were often necessary for health and education services, too.

Corruption is directly linked to the heavy burden of regulation and inspection.  At least 25 different Ukrainian agencies have unlimited powers to inspect businesses; many can seize assets, freeze bank accounts, remove financial records and even shut down a business.

High taxes are another major cause of corruption.  Taxes in Ukraine can exceed 130 per cent of a company's revenue.  The country has 37 different types of taxes and obligatory fees.

Taxes are arbitrary and vary extensively.  Local tax offices have discretion to grant exemptions or hit firms with heavy taxes.  Because of the high tax burden, the average firm conceals about 40 per cent of its revenue and 50 per cent of its payroll.

And in addition to increasing the cost of business, bribery tends to discourage foreign and domestic investment, jeopardize foreign assistance, reduce state revenue, drive businesses into the shadow economy and discourage the formation of small businesses.

At the time of independence, the shadow economy in Ukraine made up 12 per cent of the total economy.  Now it is estimated at 50 per cent and rising, compared with 13 per cent and declining in neighbouring Poland.

While its Eastern European neighbours are booming, Ukraine's economy has declined steadily for the past six years.  National production fell 7.5 per cent in the first half of this year.  And annual foreign investment in Ukraine is less than $8 per capita, compared with an average of $1,700 in Hungary.

The high cost of corruption has helped discourage Ukrainians from establishing their own businesses.  There are only about 100,000 small businesses in Ukraine today, a tiny number compared with other countries.  Poland, with its population of 38 million against Ukraine's 52 million, has two million small businesses.

Corruption also ensures a poor level of service.  Fire inspectors, for instance, often allow businesses to ignore fire hazards because they want a pretext on which to demand bribes on their next visit.

For years, Ukraine has been launching futile campaigns against corruption.  This year, President Leonid Kuchma asked the World Bank to help him in a new drive against corruption.  But when tbe bank sponsored an "integrity workshop" in Kiev last weekend, Mr. Kuchma failed to attend and some of Ukraine's most prominent anticorruption fighters were barred from participating.

The Conference was conducted in traditional Soviet fashion, with long-winded speeches and no open discussions.

There is still some hope for the future.  Deputy prime minister Serhiy Tihipko is planning an ambitious 300-day campaign of deregulation that would abolish most licences and unnecessary permits, simplify the business registration process, eliminate many special taxes and tax exemptions, reduce tax inspections and bolster the rights of taxpayers.

He wants to introduce a national ombudsman's office and a code of ethics for civil servants.

The biggest problem, Mr. Tihipko said, is the mentality of the bureaucrats.

"For 70 years, the state governed everything," he said in an interview.  "It's very difficult for people to understand how you can have an effectively operating economy with a smaller number of civil servants.

"But if we don't untie the hands of the private sector, we have no hope in this country.  If there's no significant squeeze from the top, there will be no change at the bottom."

Western anticorruption specialists have been impressed by Mr. Tihipko's energy and ideas.  But they wonder whether he can overcome the entrenched system of bureaucratic corruption.

They remember the fate of Ukraine's last crusading anticorruption fighter, former justice minister Serhiy Holovaty.

Soon after his appointment as the head of the "clean hands" anticorruption campaign this year, he found himself isolated in the cabinet.

In August, he was unceremoniously sacked.

[A graph that was present in the original article is not reproduced here.  The graph shows that between 1990 and 1995, the percent of the economy that was "unofficial" grew in Ukraine from just above 15% to almost 50%.  Other countries or regions started at about the same level as Ukraine in 1990, but by 1995 ranged from somewhat below Ukraine (Russia) to far below Ukraine (Poland).  The rank ordering from highest to lowest in 1995 was Ukraine, Russia, Average for the Former Soviet Union excluding Baltics, Baltics, Average for Central and Eastern Europe, and Poland.]