The Dutch Ministry of Finance was surprisingly candid: there is a ‘real risk’ that Ukraine will not repay the 18 billion euros in European loans that the EU promised in December, or not be able to repay them in full.

This would mean that the European Commission – which itself borrowed money for assistance to Ukraine – would have to ask for funds from the Member States to be able to repay its creditors. The Dutch Minister of Finance Sigrid Kaag (D66) addressed this issue in a letter to the Dutch House of Representatives: ‘For the Netherlands this would entail a maximum of 1,062 million euros.’

Given the extreme urgency of Ukraine’s situation, politicians emphasise their solidarity and the need to act fast. The fact that there might be long-term consequences is, however, already being addressed in some quarters.

In December, a member of the Dutch parliament, Steven van Weyenberg, who also belongs to D66 (a liberal party), did so in a debate with Kaag: ‘How can we ensure that we do not burden Ukraine with future debts that they perhaps will be unable to repay?’

It’s clear the country needs billions from its allies. The economy has been in tatters since the Russian invasion, now a year ago. But why has the European Union chosen to issue loans, instead of giving grants like the United States? How stringent are the conditions the EU has attached to its loans? And is there anyone at all who expects that Ukraine will be able to repay them?

‘Held hostage by bureaucracy’

Between the Russian invasion on 24 February 2022 and 15 January 2023, Ukraine was promised a total of 156.9 billion euros in military, humanitarian and financial support, according to the database of the Ukraine Support Tracker, compiled by the Kiel Institute for the World Economy. Nearly half of this amount (73.1 billion) is American support, with the EU providing 54.9 billion euros.

The EU has promised 30.32 billion euros in loans, with a third already dispersed. The US will donate 25.11 billion euros, half of which has already been provided.

'The Americans are setting the pace in supporting Ukraine. The Europeans' hesitancy in the first year of the war is remarkable, especially since financial resources can be quickly mobilised. This is shown, for example, by the vast amount of funds that EU governments mobilised to cushion the energy price shock at home,' says Christoph Trebesch, head of the team compiling the Ukraine Support Tracker and director of the Kiel Institute research centre.

After May, when commitments totalling 41 billion euros were made to Ukraine, the flow of aid dried up for a few months. Although 9 billion euros in budget support were promised by Brussels, the Member States were unable to decide on its form: a grant or a loan?

Worn down by the haggling, in August president Volodymyr Zelenskiy railed against ‘indecision or bureaucracy’ which was ‘holding hostage’ Ukrainian pensioners, displaced people and teachers. Zelenskiy: ‘[S]uch an artificial delay of macro-financial assistance to our state is either a crime or a mistake, and it is difficult to say which is worse in such conditions of a full-scale war.

According to Maria Repko, a macroeconomist at the Center for Economic Strategy in Kyiv, in 2022 the uncertainty about financial support was itself a risk. ‘The financial aid was slow in coming, which meant that the Ukrainian central bank had to print money to finance the immediate government requirements. This increased the risks of inflation and currency devaluation, and weakened economic resilience to quite an extent.’

‘Structured and predictable’

A repeat of this European squabbling had to be avoided in 2023. At a summit in October, the EU leaders decided that a more structural solution was needed for providing support to Ukraine and tasked the European Commission to find it.

Just three weeks later, the Commission presented a proposal for providing 18 billion euros support in 2023, in monthly payments of 1.5 billion. ‘Our financial assistance needs to be stable, structured and predictable,’ says Valdis Dombrovskis, the Latvian European Commissioner. According to him, the loans include ‘very favourable conditions’.

For example, Ukraine only needs to start repaying in 2033 and will have 35 years to do so. The interest on the loans will be paid by the EU Member States until 2027, in any case, on condition that the country continues to make progress in implementing certain reforms, such as fighting corruption.

However, several economic experts criticise the decision to lend Ukraine money instead of donating it.

‘Ukraine will not be able to repay its loans to Europe and worse yet, the overhang of debt will discourage private lending if and when Ukraine ever gets back on its feet,’ says Kenneth Rogoff, professor of economics at Harvard University and coauthor of the bestseller entitled This Time Is Different, a history of financial crises and national debt.

‘The ratio between the GDP and the debt load has risen from 50 per cent, prior to the war, to between 85 and 90 per cent in late 2022. This year it might exceed 100 percent,’ the Ukrainian macroeconomist Repko warns. The longer the war drags on, the higher this percentage will become. ‘That is not a healthy start for the postwar economy.’

Last August, the G7 and some of Ukraine’s other creditors already decided to give Ukraine a payment break for one year. Ukraine did not receive a debt pause from the International Monetary Fund (IMF), the World Bank or the European Union.

‘Wishful thinking’

In order to improve debt sustainability, the economy will either need to grow substantially or the government budget be axed, or both, says Olexandra Betliy from the Institute for Economic Research and Policy Consulting (IER) in Kyiv. ‘Ukraine has already done this between 2016 and 2019, when state debt was reduced from 80 per cent of GDP to 50 per cent. However, such [a] path will not be possible for years for Ukraine, taking into account the high reconstruction costs the country will face as well as the weak economy.’

Guntram Wolff, a political economist with the German Council on Foreign Relations, calls the EU’s 18 billion ‘a highly risky loan’. ‘Given the severe collapse of the Ukrainian economy, it is wishful thinking that this will be fully repaid,’ he says.

Werner Hoyer, president of the European Investment Bank, stated more or less the same at a press conference in January. He called lending money to Ukraine ‘bloody risky’. The European Court of Auditors also finds that there are ‘relatively high risks for the EU budget’ involved.

These doubts are not voiced by politicians in Brussels, not officially in any case.

Responding to questions asked by Follow the Money, the European Commission pointed to the lengthy 35-year repayment period, which only starts in 2033. ‘This will give Ukraine sufficient time to get back on its feet to be able to repay its obligations.’

No doubts are to be heard in Berlin either. The German Ministry of Finance says it has ‘no indication’ that Ukraine will default.

Against better judgement

Yet behind the scenes, people do know better, says Irishman Eoin Drea when asked. He is a macroeconomic researcher at the Wilfried Martens Centre for European studies, the official policy institute of the European People’s Party.

Drea: ‘My feeling from talking to policymakers in Brussels is that there is an expectation that most of the loans to Ukraine will never actually be repaid. This understanding exists particularly in countries in Central and Eastern Europe.’ The Irishman recently published an opinion piece in which he argues that the loans should be cancelled. American professor Rogoff also assumes that ‘the Europeans realise that these loans will never be repaid’.

‘There is no further room in the EU budget to provide support to Ukraine via grants of this size’

When asked, the Dutch Ministry of Finance says that this risk is ‘not quantifiable’ and will depend on ‘the eventual combination of subsidies and loans which Ukraine receives during the war, and later during reconstruction’.

During a parliamentary debate with her fellow party member Van Weyenberg, the Dutch minister of Finance, Sigrid Kaag, said that she could ‘imagine that the start date for repayment would shift if the conflict lasted longer’. If Kaag had her way, the European assistance to Ukraine would have included a larger share of grants instead of loans, ‘but we couldn’t find support for this’.

A spokesperson for her ministry clarified that the Netherlands had informed the Commission that it was open to ‘grants as well as loans’. According to a source in diplomatic circles who wishes to remain anonymous, Sweden shared this stance. The Commission will not confirm that the Netherlands and Sweden argued for grants instead of loans to Ukraine.

Greater flexibility required

The Commission did explain why the EU decided to make the entire amount of 18 billion euros a loan: ‘There is no further room in the EU budget to provide support to Ukraine via grants of this size.’

Although this year’s EU budget is nearly 187 billion euros, its allocation was already largely determined in 2020. According to researcher Drea, the negotiations on support for Ukraine show that greater flexibility is required. ‘One of the key lessons from the whole experience is that the MFF [Multiannual Financial Framework] needs to be reviewed every two to three years so money can be channelled to new priorities that emerge.’

‘There is probability that this leaves the problem to the ministers’ successors who have to collect back the money’

Every seven years, the Member States negotiate about the Multiannual Financial Framework, which is largely financed according to their respective economic strength. Both the contributions of the Member States and the allocation of funds are always hotly contested. Making any major changes in the interim would cause political mayhem. In addition, raising the budget requires agreement from all of the national parliaments.

This is why the financial support for Ukraine is being funded differently: the European Commission is taking out loans on behalf of the Member States to cover the billions it is making available.

‘Easier politically’

This is almost without precedent. In 2020 the Member States first used this method on a major scale to create the Recovery and Resilience Facility (RRF) outside the regular EU budget, to deal with the economic fallout of the Covid-19 pandemic. The RRF totalled nearly 700 billion euros. How these billions will ever be repaid, is still in question. This was why making EU loans which Ukraine does not have to pay back was ‘impossible’ this time round, Drea says.

German economist Wolff agrees that it was ‘politically easier’ for the Member States to lend Ukraine money instead of giving money at their own risk. ‘But there is a non-negligible probability that this leaves the problem to the ministers’ successors who have to collect back the money.’

Drea: ‘I think the EU Member States realised that they had to act pretty quickly, given the amount of assistance that the Americans were giving. And I think they decided that it would take too long and it would be too difficult to go for grants.’

The loans have conditions attached. If Ukraine fails to take the required steps in such matters as fighting corruption and reforming its judicial system, the EU will no longer provide funds – at least, that is the plan.

The reforms Ukraine is required to implement, in exchange for the loan, are more or less the same steps it needs to take as an EU candidate member. They are also required to meet the conditions of the IMF, which has been providing macrofinancial support since 2014. As a result, the loan conditions do not make much of an impression, according to Ukrainian civil society organisations.

Incentive

‘This is either about continuation or actually doubling what we already have promised or agreed upon,’ says Mykhailo Zhernakov, a former judge and one of the founders of Dejure, an independent organisation working towards judicial reform. ‘It’s just slightly modified, and little things are added here and there.’ ‘And I think it’s designed so, again, it is doable and money can be dispersed.’

According to Zhernakov, the loan conditions are ‘not ambitious’ enough. ‘The way to help Ukraine is to be firm that good reforms come out of this. And not watering them down because it’s quote-unquote hard enough on Ukraine.’

Yet he does acknowledge the restrictions imposed by the war. ‘[I]t’s extremely hard to develop good texts, good reforms [...] because you don’t have [...] open consultations, open sittings of the committees, open sittings of the Rada, of the parliament, open discussions of peaceful assemblies [...].’

He feels that the conditions still act as an incentive. Ever since 2014 for example, the IMF’s reform requirements were basically the only effective instrument that civil society organisations had at their disposal to convince the Ukrainian government to institute any change. Zhernakov: ‘[There are] also other forces that are not so reform[ing in nature] in the government.’

Tetiana Shevchuk of the anti-corruption organisation Antac in Kyiv is more critical. She does not consider the war to be an ‘excuse [for not] doing the reforms’. She feels that the loan conditions could have been stricter. ‘The EU is not putting pressure on Ukraine with any of [these] reform[s]’. Referring to the massive support among the population for EU membership and the related reforms, Shevchuk says: ‘So any government – this government or any upcoming governments in the future – will have to deliver the result.’

Both she and former judge Zhernakov believe that the conditions have been made less stringent in the negotiations with the EU, at the request of Ukraine. The Ukrainian ministries involved did not respond to Follow the Money’s request for comment on this.

‘Ukraine is fighting for the West too’

The question is whether the EU would actually stop providing funds to Ukraine if the latter would make too little progress.

It would ‘absolutely not’ be in the interests of the EU to be strict, Maximilian Hess responds. The German is the author of the upcoming book Economic War: Ukraine and the Global Conflict between Russia and the West, and works at two leading policy institutes for international affairs.

‘Pulling the plug would embolden Putin to threaten other countries’

According to Hess, Ukraine is also fighting for the West, defending it ‘from Putin’s megalomania’. ‘Pulling the plug would drastically increase Putin’s chances of winning the war and his forces committing further atrocities on the civil population while also emboldening him to threaten other countries.’

In the meantime, the lobby for further financial support for Ukraine continues. According to the Financial Times, both the United States and the European Commission are urging the IMF to lend Ukraine billions once again. IMF managing director Kristalina Georgieva said on 18 February that a deal on a new IMF programme for Ukraine can be expected within ‘a number of weeks’.

Political economist Guntram Wolff wonders whether such a loan would pass the required IMF debt sustainability analysis. According to the Financial Times, known for its good sources, this would involve between 14 and 16 billion dollars in extra support, once again as loans.