Poroshenko Victory Could Mark Ukraine's Turning Point

BMI View: The landslide victory for Petro Poroshenko in the first round of Ukraine's presidential elections held on May 25 marks the best-case scenario possible for the country, despite disruption to voting in several areas in Eastern Ukraine. Nonetheless, considerable economic and political challenges must be addressed over the coming months.

In line with poll predictions, Petro Poroshenko emerged as the victor in the Ukrainian presidential elections held May 25, winning around 54% of the vote with turnout estimated to be high across the country. Voting was not held in Crimea, which remains under Russian control, while separatists successfully disrupted election proceedings in some areas of Luhansk and Donetsk, in line with our recent warnings ( see 'Presidential Election Faces Huge Challenges', 20 May 2014). Nonetheless, under the circumstances, the election was relatively successful, with turnout likely to be in excess of 50%, and as high as 80% or more in many of the Western oblasts.

Poroshenko's landslide victory represents the best case scenario for Ukraine at this juncture. The decisive first round victory has made it harder for Russia to disrupt the elections or dispute the results. In a positive development for our de-escalation view, early indications are that the Kremlin is prepared to establish relations with the new government. Having being presented as the unity candidate, Poroshenko's victory is also likely to herald a major blow to separatist movements in south-eastern Ukraine, although the inability of voters to cast their ballots in some areas of these regions may slightly diminish Poroshenko's mandate.

Landslide For Poroshenko
Ukraine - 2014 Presidential Election Map

BMI View: The landslide victory for Petro Poroshenko in the first round of Ukraine's presidential elections held on May 25 marks the best-case scenario possible for the country, despite disruption to voting in several areas in Eastern Ukraine. Nonetheless, considerable economic and political challenges must be addressed over the coming months.

In line with poll predictions, Petro Poroshenko emerged as the victor in the Ukrainian presidential elections held May 25, winning around 54% of the vote with turnout estimated to be high across the country. Voting was not held in Crimea, which remains under Russian control, while separatists successfully disrupted election proceedings in some areas of Luhansk and Donetsk, in line with our recent warnings ( see 'Presidential Election Faces Huge Challenges', 20 May 2014). Nonetheless, under the circumstances, the election was relatively successful, with turnout likely to be in excess of 50%, and as high as 80% or more in many of the Western oblasts.

Landslide For Poroshenko
Ukraine - 2014 Presidential Election Map

Poroshenko's landslide victory represents the best case scenario for Ukraine at this juncture. The decisive first round victory has made it harder for Russia to disrupt the elections or dispute the results. In a positive development for our de-escalation view, early indications are that the Kremlin is prepared to establish relations with the new government. Having being presented as the unity candidate, Poroshenko's victory is also likely to herald a major blow to separatist movements in south-eastern Ukraine, although the inability of voters to cast their ballots in some areas of these regions may slightly diminish Poroshenko's mandate.

Markets Responding Positively To Election Outcome
Ukraine - USD 9.25% 2017 Bond Yield, %

The first major challenge facing Poroshenko is regaining control of eastern regions including Luhansk and Donetsk. The new government launched a major counter-offensive at Donetsk airport on May 26 leading to significant rebel casualties. There is still a risk that these offensives foster support for pro-Russian movements in these regions among the broader population. However, local sympathy for the separatists appears to be waning: since barely 1% of votes were cast for the ultra-nationalist Right Sector party, this is a strong rebuff to separatist claims that Kiev is under the control of fascist parties. With Russia indicating that it has little interest in annexing these parts of Ukraine, momentum behind the separatist movements may be on the cusp of losing momentum, although clearly much will depend on Russia, which we believe is still playing a major role.

In addition to quelling separatist movements in south-eastern Ukraine, Poroshenko also faces huge economic challenges. External account pressure led to a devaluation of the hryvnia to around UAH11.9/USD in May from UAH8.1/USD at the start of 2014, which has created substantial inflationary pressure and is choking off household consumption. We forecast the Ukrainian economy will drop back into recession this year with real GDP contracting by 4.4%. As a result of the devaluation and economic stagnation, debt servicing will be exceptionally challenging over a 24 month time horizon, even taking into account the latest IMF Stand-By Arrangement financing.

Despite the growing likelihood that Russia reduces its military de-stabilisation efforts, Moscow still retains alternative method of disruption to ensure its interests remain on the agenda. Ukraine's economic weakness provides Russia with an easy pressure point to gain leverage, as gas debts of Ukraine's state-owned Naftogaz to Russia's Gazprom are currently in excess of USD3.5bn. Even if Russia completely pulls support for separatist fighters in Ukraine, it has several other levers of power with which to exert its interests over Kiev. We reiterate our view that economic realities dictate that Ukraine will be unable to sever ties with Russia any time soon. Any major disruption of trade flows with Russia would rapidly push Ukraine into a balance of payments crisis, even with EU/IMF financing in place, and Russia will be quick to exert economic pressure on Ukraine, if it feels its interests are being undermined. While Poroshenko has refused to recognise the results of the Crimea referendum, we believe his pragmatic elements will ultimately see him adopt a more conciliatory tone with Russia over the coming months.

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Sector: Country Risk
Geography: Ukraine, Russia
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