Post Image

On October 20, the Verkhovna Rada considered the draft Budget for 2022 (registered No. 6000) in the first reading and adopted the Resolution of the Verkhovna Rada “On Conclusions and Proposals to the Draft Law of Ukraine on the State Budget of Ukraine for 2022”. While working on the draft law, the Committee on Budget of the Verkhovna Rada processed 3,284 proposals of people’s deputies and committees, of which 1,501 were taken into account in full or in part. The Cabinet of Ministers of Ukraine must prepare the draft budget for the second reading on the basis of the Budget Conclusions and submit it for consideration to the Verkhovna Rada within 2 weeks.

In terms of budget revenues, the Verkhovna Rada instructs the Cabinet of Ministers to increase certain sources of revenue, which should be a source of expanding the expenditure side of the budget. The Resolution of the Verkhovna Rada does not contain quantitative parameters of the new revenue plan, except for VAT revenues on imported goods, which are to be increased by UAH 6.5 billion, or by 1.6%. In addition, budget revenues are to be raised by the amount of additional revenues related to the adoption of the law on amendments to the Tax Code of Ukraine (registered No. 5600).

When finalizing the budget for the second reading, the Cabinet of Ministers got a “green light” to raise budget revenues under the following items: personal income tax, corporate profit tax, rent and fees for use of subsoil for natural gas and iron ore production, excise tax, environmental tax, import duty, VAT on goods produced in Ukraine, license fees in gambling industry.

Notably, when the Cabinet of Ministers was preparing the first version of the budget, the revenues of the Consolidated Budget in 2022 were projected at 31.1% of GDP, which is 1.1 percentage points less than the project of 2021 and 1.7 percentage points less than the fact of 2020. However, the legislation did not provide the abolition of certain taxes or reduction of their rates, which could explain the reduction of budget revenues. Therefore, there are indeed reserves for increasing projected revenues in the 2022 budget.

Regarding the reliability of the project from the most important source of income – VAT, the experts of the Growford Institute, when analyzing the draft budget from 15.09.2021, have come to the conclusion that its potential is underestimated, due to a systemic error in forecasting VAT by the Ministry of Finance. The Ministry of Finance has been using understated estimates of the VAT base – final consumer expenditures for several years. The Tax service estimates these expenditures in 2021 at UAH 3.5 trillion, while de facto, according to the State Statistics Service, in the first half of the 2021 they were already UAH 2 trillion and by the end of the year we can expect the value of this indicator of UAH 4 trillion.

That is, the proposals of the Verkhovna Rada for clarifying the projects for particular revenue sources and increasing the total amount of budget revenues are quite justified. However, it is important that when preparing the budget for the second reading, the Government should not deviate from balanced estimates and projects and should not pump up the artificial bubbles of budget revenues under the political pressure.

In terms of state budget expenditures, the conclusions and proposals of the Verkhovna Rada include a small number of quantitative parameters, but have a wide range of unfounded hopes and aspirations of the people’s deputies.

In particular, expenditures on upgrading the rolling stock for passenger transportation and modernizing railway infrastructure are to be reduced by UAH 3.3 billion, which should be redistributed in favor of state programs to ensure traffic safety. Public capital investments in the development and implementation of investment projects is to be increased from UAH 2.7 to 4 billion. In the new version of the budget, the Ministry of Finance is obliged to provide a subvention to local budgets (UAH 1 billion) to combat COVID-19 during the educational process in secondary schools. In addition, UAH 1 billion is to be allocated for the program “Drinking Water of Ukraine” for 2022-2026. Such changes in the expenditure side of the budget do not invite objections, as the country really needs to increase investment expenditures, improve the quality of drinking water, improve road safety and the educational process.

But, obviously, the instruction of the Verkhovna Rada to reduce the budget of the State Fund for Regional Development by UAH 6 billion and to restore “Subventions from the state budget to local budgets for the implementation of measures for socio-economic development of certain territories” by the same amount is lobbying. This subvention is called the deputy subvention and is usually used by people’s deputies to bribe voters at the expense of the state budget. Procedures for the distribution of funds of the deputy subvention and their allocation at the local level are non-transparent and are not based on clear criteria. On the other hand, the State Fund for Regional Development, whose activities are strictly regulated and based on the best European practices, is free of these shortcomings.

Other initiatives of the Verkhovna Rada to expand the expenditure part of the budget are not quantitative, but are formulated as instructions of the Cabinet of Ministers “to determine the possibility and expediency of increasing / forecasting expenditures of the draft state budget for 2022 based on proposals of people’s deputies and committees of the Verkhovna Rada”. And there are about 200 such budget programs in the Conclusions and proposals of the Verkhovna Rada!

Obviously, the state will not simply have sufficient resources mobilized through budget revenues to satisfy all the wishes of the people’s deputies. Therefore, when preparing the budget for the second reading, the Government will manually process the numerous wishes of the Verkhovna Rada and integrate only a small part of them into the new version of the budget.

In my opinion, the finalization of the budget should be based on the real needs and priorities of socio-economic development of the country, focusing resources on the most important areas and following the rules of program-targeted budgeting. At the same time, the following guidelines for spending policy may be useful for direct participants in the budget process-2022:

1. The proposal of the Verkhovna Rada (paragraph 2.14 of the Budget Conclusions) to revise the indicators of expenditures on the national defense of Ukraine is reasonable. In the first version of the budget, the resource for national security and defense was planned at the level of UAH 282.9 billion, or 5.27% of GDP. At the same time, on September 17, 2021, the National Security and Defense Council of Ukraine adopted a decision obliging the Cabinet of Ministers to provide a financial resource for national security and defense of at least 5.95% of GDP. Undoubtedly, budget expenditures to increase Ukraine’s defense capabilities are very important in the context of Russia’s ongoing military aggression. Adequate financing for the country’s defense needs will bring the defense sector closer to NATO standards; increase the level of social protection of servicemen; implement measures for the development, production and purchase of high-precision missile weapons; properly protect the state border of Ukraine and have a reliable cybersecurity system; achieve the goals of the National Intelligence Program, etc.

2. The increase in expenditures on the legislative and executive bodies of Ukraine (the Verkhovna Rada, the Cabinet of Ministers, the Ministry of Economy, the State Service for Food Safety, etc.) is unjustified, as most of these bodies show low performance and do not enjoy public confidence, absorbing significant amounts of budget funds. In the first version of the budget, the Consolidated Budget expenditures on state administration have already been planned in the amount of UAH 108 billion, or 2% of GDP, which is stable for the period 2017-2021. Therefore, further increase in expenditures under this item is unreasonable.

3. The launch of new budget programs (reflected in paragraph 2.17.21 of the Budget Conclusions of the Verkhovna Rada) related to the use of instruments of modern industrial policy in Ukraine should become one of the national priorities. The Verkhovna Rada finds it reasonable to allocate budget financing to stimulate the development of industrial parks, construction of related infrastructure for industrial parks, equity injections of the Export Credit Agency, compensation of interest rates on export credits, equity injections of the National Investment Fund of Ukraine. Clearly, the simultaneous testing of several instruments of industrial policy and adequate financing of relevant institutions in the realities of Ukraine is difficult. However, the targeted support of progressive organizational forms and development institutions as well as the development of an appropriate legal framework could be the first steps towards the diversification of the Ukrainian economy and a significant increase in its productivity.

4. The proposals of the Verkhovna Rada to initiate new budget programs and expand the existing ones in terms of transport infrastructure are too ambitious, diversified and have no real sources of financing. For example, paragraphs 2.17.105 – 2.17.118 of the Budget Conclusions on the increase of public investments in the development of road, railway, airport and river infrastructure require several trillion hryvnias of budget funds for their implementation. In addition, Ukraine has not yet established modern effective institutions for public investment management, which would protect them from large-scale corruption schemes. Therefore, the amount of financing for these programs in the first version of the budget is quite adequate (about UAH 130 billion, including guaranteed loans), and the main efforts of authorities should be aimed at improving mechanisms for planning investment projects, allocating budget financing and monitoring their implementation.

5. The instructions of the Verkhovna Rada on raising the state social standards in 2022 – the subsistence minimum and the minimum wage – deserve support, but with certain reservations. According to the first version of the budget, in the first half of 2022, the subsistence minimum was not to be changed, and was to increase from July 1 and from December 1 by 4.8% and 8.2% until December 2021. In particular, the subsistence minimum is to be UAH 2393 from January 1, 2022, UAH 2508 from July 1 and UAH 2589 from December 1. At the same time, according to the Ministry of Social Policy, the actual size of the subsistence minimum in August 2021 prices per month was UAH 4525 for able-bodied persons, and taking into account the amount of mandatory payments – UAH 5622. Such imbalances point to a reduction in the role of the state as a guarantor of human survival in difficult life circumstances (in case of disability), which is potentially dangerous in the context of maintaining social stability in the country.

On the other hand, our studies show that the expenditures of the Consolidated Budget and state social insurance funds in Ukraine at the level of 13.7% of GDP exceed the average in emerging market economies – 10.4% of GDP. Therefore, the reduction in the relative size of social spending in Ukraine in the long run will be inevitable. However, the reduction should be achieved not by further decreasing the real subsistence level (as provided by the first version of the draft budget), but by reducing the number of recipients of social benefits. A full launch of the Unified Information System of the Social Sphere and revision of legislation on social protection will promote this goal.

6. The advantages of further growth of budget expenditures on educational programs are questionable (paragraphs 2.17.30-2.17-47 of the Budget Conclusions). The first version of the budget already provided for an increase in public financing for education by 22.9% in nominal terms and by 0.7 percentage points of GDP relative to 2021. The draft budget of 15.09.2021 for the first time since 2013 provided for an increase in the level of education financing to 7.3% of GDP, while in 2015-2020 such financing was at the level of 5.4-6 .0% of GDP. A significant increase in financing in 2021-2022 showed the priority of human capital development for the Ukrainian state. Nevertheless, the additional financing for vocational education, the Small Academy of Sciences, the Fund for the Development of Vocational and Higher Education Institutions, physical and sports training of students, etc. proposed by the Verkhovna Rada is unlikely to be implemented under existing financial constraints. Therefore, even taking into account the importance of quality education for the future of Ukraine, the main discussions in the budget process-2022 should revolve around improving the structure of financing for education, because the needs for its increase have already been reflected in the first version of the budget.

Doctor of Economics, Scientific Director of the Growford Institute Tetiana Bogdan for