Rural Finance without Markets in Ukraine, 1991-2000

Three institutional pillars form the foundations of sustainable financial markets: The existence of a pool of profitable and diverse rural clients with the ability to service loans, well-run financial institutions which are financially self supporting and an enabling policy environment. Ukraine has not been successful in developing robust rural financial markets because it has consistently undermined these three institutional pillars through soft government-provided or government-subsidized directed credits that have had an overwhelming role in rural policies in the post- Soviet period. Instead of a pool of profitable clients, the Ukrainian countryside is dominated by unprofitable farm enterprises which employ the overwhelming majority of rural residents. Second, financial institutions serving agricultural enterprises in Ukraine have largely distributed government directed soft credit at unsustainable interest rates to financially troubled farms in order to cover losses. Third, there has been abiding opposition to policies to ensure clear property rights, enforceable contracts and transparent farm restructuring and privatization, because such policies would imply the dissolution of large scale farms which are the object of most rural policies. Instead of creating sustainable rural financial markets, Ukrainian policies were instrumental in causing a substantial accumulation of bad debt by agricultural enterprises by the end of the 1990s. Partly as a response to this problem, the Government of Ukraine privatized agricultural enterprises in a four month period in 2000 and wrote off or rescheduled much of farm debt. The government also subsequently changed its main form of financing agricultural input markets from direct state involvement to substantial credit subsidies. In these policy changes the government of Ukraine adhered to its well-established legacy of addressing the symptoms of financial problems without altering fundamental causes.