Currency Regimes and Exchange Rate Policy in Ukraine in the Realm of Blessed and Unblessed Trinity

Abstract

After twenty five years of efforts, Ukraine seems to have encountered the same challenges that it had faced twenty five years ago: the challenges of integration and participation in the globalized world. Even though the country has made substantial progress, there is still much to be done. Judging from the couple of crises the country has suffered, one is inclined to say that participation of the country in the international financial markets is a point which matters much for Ukraine. The country did not manage to reap the advantage of capital mobility. Today, the country suffers again from a severe currency and banking crisis, where the national currency, hryvnya, devalues on a daily basis, and many people see their balances deteriorating. The policy-makers, the authorities and especially the National Bank of Ukraine (NBU) have used measures that did not work. The society is anxious and frustrated; it has even started to think about solutions like those on the hard side of the «Bipolar View» theory, such as the currency board, dollarization and even early adoption of the Euro. The paper argues that these solutions look very appealing because they seem work out on «freezing» the situation and, therefore, stopping the downward spiral. However, they do not fit well in the situation of Ukraine. In order to fully understand the situation, in the first part of the paper we describe the problem of choosing a proper exchange rate regime in the context of international financial markets, stating the notions of the «blessed» and «unblessed» trinities. In the second part, we examine the two often proposed solutions of the currency board and dollarization, stating their advantages and disadvantages. In the third part of the paper, we investigate the case of Ukraine and try to infer whether these two often recommended regimes fit or don’t fit, and for which reasons. In the fourth part, we present our proposal for the case of Ukraine and look at the problems with implementation of the first level of our proposal. In the fifth part, we conclude.