Annual Report 2014 Annual Report 2014 National Bank of Ukraine National Bank of Ukraine 1 Annual Report 2014 Dear ladies and gentlemen, The year 2014, which was full of dramatic events in all areas of the country’s social and economic life, is now history. Old, unresolved economic problems, such as persistent budget and balance of payments deficits, weak fiscal policy, an ailing energy sector that has gone unreformed for years and a steep decline in the health of banks in the wake of significant deposit outflows - all were evident at the very start of the year. That, together with external aggression, posed great challenges for the National Bank in all of the priority lines of its activity - monetary policy, banking regulation and supervision, providing support for banks, cash circulation and financial infrastructure. This created the need for radical and multidimensional action. Monetary policy required fundamental changes on a top priority basis. In this light, the National Bank made a painful but an absolutely necessary decision to adopt a flexible exchange rate regime as early as the start of the year. A market-based exchange rate prevents economic shocks and is beneficial for the balance of payments current account. In spite of that, in the reporting year, the country was hit by two waves of devaluation resulting from the unwillingness to take the unpopular step to stop maintaining a stable hryvnia exchange rate by artificial means in previous more favorable years, delayed reforms in other economy sectors, as well as an ongoing military conflict. The National Bank had to impose certain restrictions, raise the refinancing rate, and use other monetary policy tools in order to ease high inflation and devaluation pressure. The deep financial and economic crisis provoked by the annexation of the AR Crimea, followed by a military conflict in eastern Ukraine, created tensions in the banking sector, which later spilled over into the entire banking system. People reacted with runs on banks, resulting in the loss of one third of all deposits by the banking system. The National Bank quickly responded to the liquidity crisis, providing financial National Bank of Ukraine 2 Annual Report 2014 support for banks via conventional and ad hoc refinancing instruments. Under such difficult conditions, the NBU policy to strengthen the banking sector was mainly focused on maintaining the capital of banks at a sufficient level and cleansing the banking sector of insolvent and incompliant banks. The National Bank also closely cooperated with and supported the Household Deposit Guarantee Fund. The National Bank also experienced significant difficulties with supplying the economy with cash and with ensuring the smooth operation of payment systems in some Ukrainian regions. In spite of numerous armed attacks on the banks in Luhansk and Donetsk oblasts by the militants, the National Bank was able to ensure uninterrupted cash supplies in Ukraine, and to maintain the smooth operation of the electronic payment system. In 2014, the National Bank launched radical reforms of itself. It conducted a fundamental review of its main functions and processes, optimized the number of its staff, and disposed of non-core assets, which pushed the bank closer to its aim of becoming a modern central bank and enhancing the effectiveness of decision-making. Valeria Gontareva National Bank of Ukraine 3 Annual Report 2014 CONTENTS COUNCIL of the NATIONAL BANK OF UKRAINE 6 BOARD of the NATIONAL BANK OF UKRAINE 7 ORGANIZATIONAL CHART of the NATIONAL BANK OF UKRAINE 8 OVERVIEW 9 CALENDAR of KEY EVENTS 2014 15 MACROECONOMIC CONDITIONS 22 OVERVIEW OF THE WORLD ECONOMY AND INTERNATIONAL MARKETS 23 UKRAINE ECONOMY OVERVIEW 25 1. REAL SECTOR 25 1.1. GROSS DOMESTIC PRODUCT 26 1.2. LABOUR MARKET AND HOUSEHOLD INCOME 27 1.3. INFLATIONARY DEVELOPMENTS ANALYSIS 27 1.4. BUSINESS OUTLOOK SURVEY 28 2. FINANCIAL SECTOR 30 2.1. CASH CIRCULATION 30 2.2. BANKING SECTOR 31 2.3. FINANCIAL MARKETS AND INFRACTRUCTURE 37 Deposit and credit market 37 Foreign exchange market 40 Stock market 42 Payment cards market 44 Money transfer system 46 3. FISCAL SECTOR 49 4. EXTERNAL SECTOR 51 Key challenges for the Activities of the National Bank of Ukraine 55 ACTIVITIES OF THE NATIONAL BANK OF UKRAINE 57 1. MONETARY POLICY OF THE NATIONAL BANK OF UKRAINE 58 1.1. MONETARY POLICY IN 2014 58 Criteria of the monetary policy in the medium term 59 1.2. ANTI-CRISIS REGULATIONOF THE MONEY AND CREDIT MARKET 59 1.3. MARKET INSTRUMENTS FOR REGULATION OF MONEY AND CREDIT MARKET 62 1.4. MANAGEMENT OF INTERNATIONAL RESERVES 68 National Bank of Ukraine 4 Annual Report 2014 Reformation of the banking system of Ukraine 70 2. REGULATORY AND SUPERVISORY ACTIVITIES 72 2.1. REGULATING THE ACTIVITIES OF THE BANKS OF UKRAINE 72 2.2. REGISTRATION AND LICENSING 74 2.3. SUPERVISION OVER ACTIVITIES OF THE BANKS OF UKRAINE 77 2.4. TERMINATING ACTIVITIES OF THE BANKS OF UKRAINE 83 Peculiarities of operation of the banking system of Ukraine under the terms of external aggression 86 3. REGULATION OF CASH CIRCULATION AND NON-CASH SETTLEMENTS 90 3.1. ENSURING FUNCTIONING OF CASH CIRCULATION 90 3.2. REGULATION OF PAYMENT SYSTEMS AND DEVELOPMENT OF NON- CASH SETTLEMENTS 94 4. OTHER AREAS OF ACTIVITIES OF THE NATIONAL BANK OF UKRAINE 100 4.1. LEGAL ISSUES AND PROCEDURES OF BANKING SYSTEM OPERATION 100 4.2. IMPROVEMENT OF BOOKKEEPING AND FINANCIAL STATEMENTS OF BANKS 102 4.3. STATISTICS AND REPORTING 102 4.4. ECONOMIC ANALYSIS, FORECASTING, SCIENTIFIC RESEARCH 104 4.5. INTERNATIONAL COOPERATION 106 4.6. COMMUNICATION POLICY 111 Changes at the National Bank of Ukraine 115 4.7. HUMAN RESOURCES POLICY 116 Enhancing the financial literacy of the general public 119 4.8. AUDITS OF THE NATIONAL BANK OF UKRAINE 121 CONSOLIDATED FINANCIAL STATEMENTS or the year that ended 31 December 2014 124 National Bank of Ukraine 5 Annual Report 2014 COUNCIL of the NATIONAL BANK OF UKRAINE Stanislav Bukovynskyi Yurii Polunieiev Chairman of the National Bank of Ukraine Deputy Chairman of the National Bank of Council Ukraine Council Resolution of the Verkhovna Rada of Ukraine Resolution of Verkhovna Rada of Ukraine No.1181-VІІ of 1 April 2014 No.504-VІ 5 September 2008 Iryna Akimova Oleksandr Bilanenko Decree of the President of Ukraine No. 545/2010 of Resolution of Verkhovna Rada of Ukraine 16 April 2010 No.1181-VІІ of 1 April 2014 Pavlo Haidutskyi Valeria Gontareva Decree of the President of Ukraine No. 545/2010 of As the NBU Governor is a member of the NBU Council 16 April 2010 ex officio Olha Kandybka Trokhym Kovalchuk Resolution of Verkhovna Rada of Ukraine Resolution of Verkhovna Rada of Ukraine No.1181-VІІ of 1 April 2014 No.1181-VІІ of 1 April 2014 Ihor Liutyi Vitalii Lomakovych Resolution of Verkhovna Rada of Ukraine Resolution of Verkhovna Rada of Ukraine No.1181-VІІ of 1 April 2014 No.1181-VІІ of 1 April 2014 Viktor Fedosov Шпек Роман Васильович Decree of the President of Ukraine No. 545/2010 of Decree of the President of Ukraine No. 545/2010 of 16 April 2010 16 April 2010 National Bank of Ukraine 6 Annual Report 2014 BOARD of the NATIONAL BANK OF UKRAINE (as of 31 March 2015) Valeria Gontareva Governor of the National Bank of Ukraine Oleksandr Pysaruk Yakiv Smolii First Deputy Governor Deputy Governor Vladyslav Rashkovan Dmytro Solohub Acting Deputy Governor Acting Deputy Governor Roman Borysenko Bohdan Lukasevych Chief Accountant – Director, Accounting Director, Personnel Department Department Viktor Novikov Oleh Churii Director, Legal Department Director, Open Market Operations Department Alla Shulha Director, General Department for Banking Supervision National Bank of Ukraine 7 Annual Report 2014 ORGANIZATIONAL CHART of the NATIONAL BANK OF UKRAINE (as of 1 March2015) National Bank of Ukraine 8 Annual Report 2014 OVERVIEW 1. The Annual Report discloses the results of performing the major function and tasks by the National Bank of Ukraine in the following areas: monetary policy, regulatory and supervisory activity, regulation of cash circulation and non-cash settlements, economic analysis, reporting and statistics, international cooperation. Also, the Annual Report presents the results of legislative activity of the National Bank of Ukraine, the results of reforming the banking system and the HR management policy of the NBU in 2014. 2. In 2014, the activities of the National Bank of Ukraine were carried out in extremely complex political and macroeconomic conditions - Ukraine experienced an unprecedented combination of political, financial, economic and banking crises. 3. The ground of the full-blown financial crisis in 2014 was the economic policies of the previous years, which had led to the accumulation of large macroeconomic imbalances. Due to the artificial maintenance of a fixed exchange rate, Ukraine's economy was losing external competitiveness, which resulted in the rise of account deficits and the reduction of gold and foreign exchange reserves. The inconsistent monetary and fiscal policy, the lack of energy sector reforms and debt dollarization (active borrowing in foreign currency in the domestic market and issue of indexed domestic sovereign bonds) increased the quasi-fiscal deficit component and vulnerability of the debt to the foreign exchange risk. Annexation of the Crimea and military activities in the east of the country together with the accumulated imbalances significantly impaired the macro-financial stability of the state. 4. Economic activity during 2014 was restrained by unfavorable conditions in foreign markets, decrease in domestic consumer and investment demand, breaks of interregional relations, reduction of state funding, narrowing of credit activity, etc. Events in eastern Ukraine led to a significant number of shutdowns of metallurgical, chemical, machine-building plants and coal mines in this region, which traditionally accounted for 20-25% of Ukrainian exports. At the same time, the record grain harvest and liberalization of access of Ukrainian goods to the EU markets were stimulating factors for the economy.