July's inflation figures reveal a drop in prices and seem to indicate a disinflationary trend in the coming months. As global inflationary pressures ease, the worst may well be over. Nonetheless, with inflation almost certain to be in double figures by the end of the year, and possibly topping 20% on current forecasts, elation could be somewhat tempered.
Prices fell 0.5% in July against the previous month, having risen 0.8% in June, Prime Minister Yulia Tymoshenko announced to international media on August 6. The fall was driven in large part by a 1.3% drop in food costs due to a strong harvest this year, and confounded analyst predictions of a small price increase. Year-on-year inflation fell to 26.8% from 29.3% in June.
Tymoshenko hailed the deflation as evidence that the government's anti-inflation strategy was bearing fruit. She said that she expected inflation to moderate further.
"All the conditions are present for deflation in the coming months. Global oil prices have started to fall and there are no reasons to have inflation in the country," she said.
While inflation has been rising across the world over the past year and a half - particularly in emerging markets - it has been particularly rampant in Ukraine, hitting 30% in the year to April. High global oil, food and commodity prices have fed through to the country, exacerbated by a poor harvest last year. Rapidly expanding credit and occasionally lax fiscal policy in a competitive political environment have also been contributory factors.
Kiev moved to tackle the problem by putting pressure on regional governments to tackle prices, threatening to sack the governors of the three regions with the highest inflation rates. Furthermore, it banned grain exports for the second half of last year and capped them for the first five months of 2008 in an attempt to ensure adequate domestic supply.
Some questioned the efficacy of these measures, and suggested other remedies. In June, the International Monetary Fund (IMF) warned that Ukraine would have to tighten its fiscal stance to tackle inflation. "Growth in social transfers will need to be reined in and increases in minimum wages and public sector wages scaled back," a report by the fund advised. "In addition, further restitutions of depreciated soviet-era bank deposits should be spread over a number of years," it added, referring to reparations given to people who lost their savings in state banks during the hyperinflation of the 1990s.
Over the past month or so, global inflationary pressure has abated. Oil prices have slipped from a high of $147 a barrel in July to around $120, while commodity futures have also eased.
Monetary policy has also had a role to play. The National Bank of Ukraine (NBU) had a three-year policy of keeping the hryvnia within a band of 5.00 to 5.06 against the US dollar, which led to the Ukrainian currency mirroring the greenback's slump, which in turn pushed up import costs. However, it has now shifted away from the de facto peg, allowing the currency to appreciate to 4.64 against the dollar on August 7. In July, the NBU also started unprecedented purchases of euros and sterling in what thereby appears to be a move aimed at building an effective currency basket arrangement for the hryvnia, loosening its link to the dollar.
Despite the good news in July, Ukraine's manufacturers may wait a while before joining any celebration. The producer price index has continued to soar, increasing 3.6% in July alone - taking the year-on-year rate to a substantial 46.3%.
Meanwhile, the M3 broad money supply increased 3.8% to $96.6bn in July. This will raise worries that both demand stimulus is still increasing quickly at a time when supply bottlenecks remain, and that credit is being extended rashly. The IMF has warned of an increased risk of mortgage default and lending to unhedged borrowers.
While the government has revised its inflation target for 2008 downwards to 15.9%, the World Bank said in July it expects the rate to have reached 21.5% by the end of the year, while the IMF is currently expecting a figure of 21.9% - while admitting this could change over the next few months.
Global and domestic factors point towards continuing disinflation, which will be welcom news for the authorities. However, double-digit inflation - let alone a rate of over 20% - is hardly a cause for celebration. Pressure on ordinary Ukrainians' wallets remains painfully high. Over the longer term, Ukraine could look again at supply-side reforms to boost competitiveness, flexibility and productivity, to enable it better to absorb price shocks seen over the past year.