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16 The Machinery of Government and Economic Policy in Ukraine

Patrick Lenain, and Peter Cornelius
Published Date:
February 1997
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Alex Sundakov*

The key function of the political process is to resolve conflicts of interest—between various groups of voters, between consumers of government services and the taxpayers, between short-term and medium-term objectives, and so on. How these choices are made depends in part on the political actors involved. More important, however, is that the choices are fundamentally influenced by how the governing institutions are organized. There is increasing recognition in literature, as well as in practical applications, that good institutions produce good policies. For example, in many countries, achievement of sustainable low inflation is credited to the establishment of the institutional independence of the central bank. The corollary is that inappropriate fiscal and monetary policies are frequently produced by state institutions unsuitable to the task of reconciling competing claims on the public purse explicitly. Inflation is then required to do what government institutions cannot achieve.

To assess the effectiveness of government institutions, we need to analyze the way in which those responsible for decisions formulate their objectives, how these objectives are translated into policies, and the efficiency with which these policies are implemented. Although the issues faced by the policymakers at the national level are particularly complex, an effective public sector system of governance is likely to possess the main features associated with successful corporate management:

  • Clarity of objectives. The initial element of the policymaking process must be a clear specification of the objectives that government institutions and officials are responsible for achieving. This also implies the avoidance of multiple, conflicting objectives.
  • Freedom to manage. Once objectives are clearly stated, the officials responsible must be given the power to make their achievement possible.
  • Accountability. Freedom to manage is not by itself sufficient for good management. Incentives and sanctions must be in place to ensure that government officials do act to meet established objectives, rather than pursuing independent goals of their own.
  • Effective assessment of performance. If the government officials are to be accountable for their performance, those to whom they are accountable must have the means to establish the quality of that performance.
  • Adequate information flows. Specification of objectives, day-to-day management, and performance assessment require a sufficient quantity and quality of information. Good governance implies not only good accounting and statistical systems, but also effective dissemination of information.The remainder of this paper examines the key features of the government of Ukraine in light of the above criteria, and identifies possible reforms.

Decision-Making Process

The executive and legislative authority in Ukraine is unusually diffuse. The president has the right to issue legislation-like decrees as well as specific executive orders. The parliament can pass resolutions that are in the nature of executive instructions (that is, requiring government officials to take specific actions). The cabinet of ministers governs collectively through the issuance of decrees, which also have broad legislative properties. Individual ministries and agencies have wide-ranging powers within their specific areas of responsibility to promulgate administrative instructions, which are akin to presidential and cabinet decrees. For example, industrial branch ministries can impose taxes on enterprises under their purview by requiring them to contribute to extrabudgetary funds.

Under this multilayered policymaking, various branches of government produce a large quantity of legislative and quasi-legislative documents, which are not only poorly coordinated, but also frequently remain un-publicized. Enterprises and individuals have to invest significant effort to uncover the rules by which they are supposed to be governed. In turn, government officials responsible for drafting decrees and resolutions rarely have a clear picture of all the rules and regulations that are already in existence. As a result, numerous legal documents contradict each other, requiring frequent amendments and corrections, which exacerbate the information problem.

There are three main channels through which the diffusion of authority weakens the system of governance in Ukraine. First, it tends to blur the distinction between the political and the civil service aspects of government administration. In a democracy, politicians are expected to set objectives and monitor performance, while professional civil servants are charged with advice and implementation. Admittedly, even in developed market economies these roles frequently overlap. In Ukraine, however, the infusion of politics into the professional sphere and the penetration of technocracy into politics reach an extent that harms the quality of policymaking.

Since the rule-making authority reaches down to administrative subunits, even relatively junior officials assume the essentially political role of deciding what objectives should be pursued by government institutions and how resources should be distributed in society. In effect, numerous individual civil servants set and implement their own policies. This has two implications. First, it reduces the likelihood that a consistent overall policy would emerge. For example, the Pension Fund, the Ministry of Labor, the Ministry of Social Protection, the Employment Fund, and about half a dozen other agencies are at present free to make independent judgments on how to target social assistance programs. The result is that there is no clear national social safety net, and the funds appear to be poorly spent.

Second, in a politicized bureaucracy, there is a risk that technical-level staff would be appointed for their political loyalty rather than expertise. The desire to maintain a political balance can make the authorities reluctant to replace poorly performing officials. This, by the admission of the Ukrainian authorities themselves, has left the Ukrainian government service professionally weak, with few staff competent to analyze and operate in an increasingly complex, decentralized economic environment. For example, four years into economic reform, the Ministry of Economy continues to produce a Soviet-style plan, put together from the production requests of the branch ministries.

On the other hand, ministerial appointments are almost exclusively made from within the ministries themselves, because of the perceived need to ensure technical expertise at the highest level. This greatly increases the possibility that the ministers would naturally represent their sectoral constituency rather than the wider political interests of the government. At the same time, ministers who come up through the bureaucracy may see promotion to the political level as an extension of their previous jobs. A common problem in the Ukrainian government is that ministers tend to micromanage the day-to-day running of their departments, and spend less time on strategic policy issues.

The second channel through which the diffusion of authority weakens the system of governance is the high burden of coordination that it places on a relatively weak civil service. The unfulfilled demand for coordination can be seen in the growing number of government institutions designed to play that role. To begin with, three distinct, yet somewhat redundant, coordinating bodies survive from the Soviet system of government. The Ministry of Economy (the former State Planning Agency) has the responsibility for overseeing the activities of economic ministries, including, in particular, industrial branch ministries. The cabinet of ministers, as a ministry in its own right, is required to bring into line the work of all government agencies, which in the area of economic policymaking overlaps with the Ministry of Economy. The presidential administration (the former apparat of the Central Committee of the Communist Party) is responsible for an overall coordination of the work of the Executive in the name of the president, paralleling both the cabinet of ministers and the Ministry of Economy. More recently, the Ministry of Finance has started performing an independent coordination function, recording and reconciling the financing requests of various ministries.

At the political level, the trend until recently has been for the government to appoint more vice-premiers, whose main function, as distinct from heads of ministries, is to provide high-level coordination in the pursuit of specific tasks (hence, for example, a vice-premier for economic reforms or a vice-premier, for emergency situations).1 This, apparently, was not seen as sufficient, since various ad hoc, overlapping coordinating committees have been periodically set up in recent years from the pool of ministers, vice-premiers, and senior advisors, including a macroeconomic policy committee. Coordination, however, remains weak, with poor information flows exacerbated by overlapping responsibilities.

A third effect of the diffusion of authority is that it delays the emergence of a stable legislative environment. As long as various branches of the executive have the authority to issue quasi-legislative acts, there is a natural temptation to implement policy through such acts, rather than go through the relatively more difficult process of preparing and passing parliamentary legislation. Cabinet and presidential decrees can be drafted, and if necessary amended, rapidly and with little need to build consensus around them. That is precisely their problem, however. First, relatively less care and analysis go into the preparation of decrees and resolutions compared to parliamentary legislation. This contributes to the poor quality of the legal regime, and itself encourages frequent changes. Second, the reliance on administrative decrees encourages the persistence of the old Soviet stereotype that a good government is one that responds rapidly to even small changes in the economy, rather than one that creates a stable environment. For example, there is a strong constituency that believes that import tariffs should be adjusted frequently to balance demand and supply in the individual markets. Had tariffs been set by legislation, such ad hoc adjustments would have been difficult, if not impossible, to implement. However, with tariffs established by decree, this kind of fine-tuning is readily available.

Overall, it is likely that economic decision making would be improved if the government—including the president, the cabinet of ministers, and individual ministries—voluntarily desisted from using its authority to issue quasi-legislative acts, such as decrees, resolutions, and instructions, and instead focused attention on getting its policies implemented through parliamentary legislation. This would have a number of institutional benefits.

1. Knowing that legislation is difficult to change, greater care would be taken to create only those rules and regulations that the government is happy to see in place for some time.

2. It would reduce the burden of coordination, since it is much easier to track the output of a single legislative body. At the same time, different agencies would be forced to coordinate policymaking if their efforts had to be channeled into the production of a single draft law.

3. This would define clearer roles for the ministers and their officials. The ministers would need to focus more on the political aspects of getting legislation through parliament. Civil servants would tend to assume the traditional civil service functions of implementing these objectives. This would allow public sector management to improve.

One example of the institutional improvement that could come from the curtailment of quasi-legislative authority is the recent progress in tax reform. Under the constitutional agreement in effect since May 1995 (and until the new constitution is adopted), only parliament is empowered to set tax rules. This has deprived the government of being able to dispense patronage through tax privileges and exemptions. Partly as a result, the government has pushed for the removal of all such exemptions. In the absence of an arbitrary authority, the government is likely to benefit politically more from a widening of the tax base than from the enshrining of the existing tax breaks.

Structure of Government

The structure of government in Ukraine continues to reflect the demands of administering a centrally planned economy. Approximately 70 ministries and state committees (which have a slightly lower status, but are not subordinated to any ministry) are organized along sectoral lines, and are responsible for “running” their sector. Only a few ministries, such as the Ministries of Finance, Foreign Affairs, and Foreign Economic Relations, have functional responsibilities that reflect policy areas rather than industrial specialization.

Although on paper most of the sectoral ministries and state committees have moved to separate production from regulation, in practice each such agency remains identified with the main enterprises from which it was spun off. For example, the Ministry of Civil Aviation is indistinguishable from Air Ukraine, the Ministry of Transport is closely linked to the Ukrainian Railway Company, and so on. The separation of production and regulation only becomes effective when the agency supervises a large number of relatively small enterprises. For example, the State Committee for Communal Services governs numerous utilities and housing enterprises. However, this may simply mean that the symbiosis between the producer and regulator is re-created at a more local level. In each city, the local office of the State Committee for Communal Services would be interconnected with the local urban services.

This predominantly sectoral structure has a number of implications for the kind of policy decisions that the government produces. First, it tends to discourage the development of the private sector. Sectoral ministries quite naturally favor the incumbent enterprises in their sectors. Since government ministries have major influence over the business environment in the sector under their purview, they can easily prevent new business start-ups that could threaten the existing enterprises. It is notable that the few significant new businesses in Ukraine in recent years—such as Ukrainian Mobile Communications—have been able to establish themselves only in those areas where they opened up new markets not already controlled by the incumbents.

Second, it encourages special interest lobbying and discourages uniform treatment. The existing institutional setting particularly encourages the capture of the regulators by the regulated. In this environment, members of the cabinet representing individual sectors are likely to see themselves primarily as representing the interests of their special constituencies, rather than those of the government as a whole.

Third, the sectoral structure contributes to the extreme compartmentalization of decision making. When the machinery of government is dominated by sectoral ministries and state committees, the culture of narrow sectoral orientation tends to carry over into all areas of the civil service. As a result, even officials in policy-oriented ministries, such as the Ministry of Finance, rarely appear to take a broad view of the issues they are working on. This often leads to important, interrelated policy reforms proceeding on parallel tracks. For example, the existing corporate tax rules, accounting rules, and capital depreciation rules have all been worked out by different sets of officials in isolation from each other, leading to confusion and vastly increasing opportunities for tax avoidance.

Fourth, it makes the cabinet of ministers unwieldy and discourages the development of a cohesive government. A modern economy has many sectors and, therefore, a sectorally organized government inevitably has many ministers. The experience in Ukraine is that owing to sheer numbers, cabinet meetings are more akin to parliamentary sessions than to what would normally be regarded as a cabinet debate. In fact, in contrast to the secrecy that typically surrounds cabinet proceedings, mass media are usually invited to cabinet meetings in Ukraine to record ministers’ speeches. As result, real debates take place in informal and private groupings and gatherings among members of the cabinet. This naturally increases the risk of the fragmentation of the government.

Fifth, it creates a perverse dynamic for continued growth in the size of the government. As the economy becomes more complex and more market-oriented, it is increasingly difficult for the ministries to oversee and micromanage all aspects of the work of their sectors. This generates incentives to define sectors more narrowly and to create more government agencies. For example, there have been various proposals to disaggregate the Ministry of Industry into subsectoral ministries.

Sixth, it encourages the “fire fighting” culture, to the detriment of strategic policymaking. When policymakers are close to, and even identify with, the day-to-day management problems in their sectors, they tend to spend more of their time focusing on those issues. Experience shows, for example, that the minister of agriculture sees himself as the person responsible for ensuring that fuel supplies are shipped to collective farms and that spare parts are available for combine harvesters. The more time he spends on such issues, the more short-term his orientation becomes. This year’s sowing campaign or this year’s harvest assumes overwhelming importance, with little effort and attention left for medium-term reforms and development.

In Central Europe and in the Baltic countries, the elimination or at least a reduction in the number of the sectoral (also known as branch) ministries has been an important factor in the success of their reform programs. A move to a more functionally-oriented form of government can make an important contribution to the way the business of government is conducted, and help align the structure of government to the decision-making needs of a reforming economy. If ministries were organized along the lines of key policy responsibilities—as tends to be the case in developed market economies—many of the negative institutional motivations described above would be altered. The functional structure itself would need to evolve as the functions of government change over time. For example, a Ministry of Privatization is likely to be an important agency during the transition period, but its function would disappear once privatization is completed.

A further important consideration in deciding the structure of government is that the cabinet of ministers should be small enough to be an effective decision-making body in its own right. This means that the number of ministers should be limited to a group whose size makes it, at least in principle, capable of holding productive meetings and reaching collective decisions. Such a group is unlikely to have more than 20 to 30 members. This would suggest a reorganization of the government leading to the creation of 20 to 30 functional ministries.

The main constraint in the creation of functional ministries, apart from the obvious political difficulties of such a step, is likely to be the absence of appropriately skilled personnel. Ministries organized along policy responsibility lines need more generalist, analytical capacity from their staff, and less detailed knowledge of production processes and of how business is done in a particular industry. By contrast, the Soviet-style training and work experience of most civil servants tend to emphasize narrow specialization. In this context, structural reform in the public sector is likely to generate increased demand for technical assistance and training from donor countries.

Funding Process

To make sure that desired activity is carried out, the government must finance it from the budget. The funding process—how one goes about obtaining money from the budget—is probably the main factor molding the motivations and intentions of government officials, both those who aim to receive public money and those who allocate it.

Three main features of how budget allocations are set in Ukraine leave their imprint on the functioning of the government system. First, the budget process is effectively divorced from policymaking. In the first round of budget preparation, spending ministries are invited to submit estimates of how much is required to finance all their activities. In a rapidly declining economy, which nonetheless has almost no open unemployment and, on paper, generous medical and educational facilities, these requests almost inevitably total up to more than the expected GDP. The Ministry of Finance then imposes arbitrary cuts to these requests in order to fit them into the bounds of expected revenues and the desired deficits.2 In the final stage, parliamentary commissions review these allocations and make minor adjustments to proportions going to different budget lines. The budget is then voted on by parliament. By the time the budget emerges, virtually no connection remains between ministries’ planned activities and their budget allocations. No guidance is given to ministries on which activities should be cut. In fact, there is no underlying policy basis to any particular financial allocation. Moreover, since everyone expects that the baseline for the next year’s budget will again be an initial request for desired spending rather than this year’s actual expenditure, ministries have little incentive to adjust their activities to fit the present financial constraint. Since there is no penalty for running up arrears—the very nature of the process ensures that arrears are very likely in all areas of the budget—there is every incentive for spending ministries to hold out on any adjustment in the hope of obtaining further financing in future.

Second, and a related factor, is that the budget is not the final arbiter of spending. On the one hand, new spending promises and announcements continue unabated even after the budget is passed. In particular, a strong element of the Soviet culture remains in that each time senior figures—the president, the prime minister, or the speaker of parliament—visit the provinces, they are expected to make new spending commitments associated with their presence in that town or village. In any case, there are no constitutional obstacles to issuing new laws or quasi-laws mandating new spending without amending the adopted budget. On the other hand, the budget is executed through daily cash management—the minister of finance looks daily at the balance on the government’s revenue account, and then decides on today’s priorities for allocating this money. Expenditure lines in the budget serve as no more than broad guidelines in the setting of daily priorities. More typically, these priorities are decided by the pressing short-term political needs. Therefore, from a spending ministry’s point of view, a budget allocation is neither an upper nor a lower bound on what they can actually plan to receive. In fact, any expenditure planning is very difficult.

Third, public organizations are not formally required to separate their budget activities from their commercial activities. Research institutes sell consulting services, schools lease out their sports halls to shops, and so on. In addition, many user fees are collected directly by the providers, without informing the Ministry of Finance. In the initial round of the budget process, the incentive is to request that all the planned activities be financed from the public purse. Since the actual allocation is always lower, public sector bodies then fall back on their commercial and fee income. The problem for the policymakers is that they have no information on these sources of revenue. Consequently, they cannot know how far a budget allocation can be reduced before there is any change in the actual activities being carried out. In the absence of such information, there is always a strong likelihood that the activities the government actually wishes to support will be underfinanced, while the activities the government considers low priority will continue unchanged.

The existing system of financial allocations makes it very hard for the government to achieve its stated objectives. In this context, the needed reform is to set up institutions that can produce a policy-based budget. This would require (1) that the Ukrainian authorities adopt a convention that the budget is the only spending authority. Once the budget is passed, any changes in revenues or expenditure during the fiscal year should only be possible by amending the original budget legislation; and (2) that the actual expenditures in the latest period, for example, 1995 or the first half of 1996, become the policy baseline for all future budgets. The Ministry of Finance would adjust this baseline for the next period on the basis of macroeconomic forecasts. Then, during the next and subsequent budget rounds, spending ministries would submit not total financing requests, but proposed changes to the adjusted baseline.

In the meantime, to underpin this institutional change, the Ministry of Finance would need to undertake an analysis of what policies would have been consistent with the actual budget spending in the most recent period. This is the inverse of the work normally done by ministries of finance when they are required to cost policies. In Ukraine, the cost is known. What is not known is what goods and services could be sustainably purchased at that cost. For example, Krb 256 trillion (about $1.7 billion or $33 per capita) was spent in 1995 on public health care activities. However, there is no information on what this means for the existing health sector: how many hospitals can continue to operate, how many doctors can be employed, how many operations of different types can be carried out, and so on. This starting information is essential to facilitate movement to a more rational budgeting process.

Control and Performance Assessment

One abiding impression shared by all observers of Ukraine is that the government has very little control over implementation of its decisions. Numerous resolutions get passed, yet very little is done. At the same time, a formidable apparatus of control over the machinery of government has been inherited from the Soviet times. This includes the following institutions.

  • Cabinet of Ministers Control Department. Charged with checking that cabinet instructions have been executed by government officials. Each order or resolution signed by the cabinet as a whole or by the prime minister or individual vice-premiers includes the names of the persons deemed responsible as well as due dates. The Control Department tracks this information, and collects reports on due dates. The ultimate sanction is removal from government service.
  • Control Service of the President. Responsible for ensuring that the president’s instructions and decrees are carried out. The powers of the Control Service apply not just to the central and local executive, but to the state sector as a whole, including publicly owned enterprises. This is a small agency, and instead of tracking all of the president’s decisions, it tends to do in-depth, occasional investigations of specific areas of concern, as directed by the president. The ultimate sanction is dismissal.
  • Control and Review Department of the Ministry of Finance. An in-house investigative body responsible for checking that funds disbursed from the Ministry of Finance were used for stated purposes and not misappropriated. The Department operates through selective surprise inspections and ex post spot checks. The ultimate sanction is criminal prosecution.
  • The Prosecutor General. Empowered to conduct investigations into any noncompliance with any legislative or quasi-legislative act. This office also operates through surprise and selective spot checks. Criminal prosecution is the only sanction available.

There are a number of reasons why these apparently powerful agencies fail to ensure that state administration carries out the government’s policies. In a government that is stretched to the limit by the needs of a rapidly changing economy, each individual official receives far more tasks or duties than he or she could possibly handle. The outcome is perverse. While officials are in theory snowed under, in practice they are free to choose what they will or will not do, since any failure can always be explained away by the demands of other pressing tasks. Moreover, many instruct ions issued by the government tend to be of a declaratory nature: “improve the working of tax administration,” and such. This lack of specificity leaves officials free to excuse any failure to act simply by reciting the difficulties that they face.

In a system where there are numerous conflicting laws and regulations, there is a likelihood that almost every official may be guilty of breaking some law. When everybody can be charged with some transgression, in practice nobody is. This is particularly so in an environment where the government is implementing tough financial policies against the background of generous wage and welfare legislation. Fiscal adjustment requires that many social protection laws be routinely broken, making prosecution both inappropriate and impossible. Finally, it is likely that surprise “reviews” may discourage rather than encourage compliance. “Reviews” are typically ordered when the problems in a particular area of activity become acute and the search for scapegoats is on. Every official knows that if the spotlight is turned on him or her, some breach of law or instruction can always be found. Consequently, officials have the incentive to minimize effort while the spotlight is off, while setting up exit options should it be turned on.

In this environment, improving control over the implementation of government policies requires a radical change in the government management culture. The eventual creation of a treasury system—which will provide control over inputs—may go some way toward reducing the prevailing chaos. More fundamentally, however, control can only be reestablished if the government sets up a clear and predictable system of incentives and sanctions. In turn, that is only possible if each agency and each official faces clear and realistic objectives as well as explicit performance criteria.

It would seem that the first step in reestablishing control over the machinery of government would be to remove the unrealistic and unnecessary threat of criminal prosecution for exercising professional judgment. At present, many senior officials involved in the conduct of fiscal and monetary policy spend a considerable amount of time and nervous energy explaining their actions to state prosecutors. The removal of this threat would focus attention on the professional quality of the officials’ work.

The next step would be to develop explicit corporate plans for various government agencies and ministries. State bodies in Ukraine appear to exist out of inertia, with little thought given to how their activities or outputs may contribute to the overall objectives of the government. While there is a risk that the drafting of corporate plans may turn into a pro forma exercise, there is a good chance that the very transparency of the process would force public sector managers toward a more explicit, and consequently more easily monitored, definition of their tasks and functions.

The corporate planning process could be strengthened by developing performance contracts with the key officials. In many areas of government, performance is relatively easy to define, and the achievement of specific targets could easily be written into officials’ terms of employment. For example, the head of the passport office could be held responsible for ensuring that passports are issued to citizens in no more than a particular number of days. Even in those areas where simple quantitative targets are inappropriate, progress could be made by writing the achievement of the main elements of the corporate plan into the terms of employment of relevant officials. This would also have the benefit of making it clear who is responsible for various tasks, and who should be held to account.

To be realistic, it will be difficult to break the entrenched management culture. Modern management techniques are virtually unknown in Ukraine, and only a handful of people possess the relevant skills. Consequently, this is one area where foreign advice and assistance could produce significant returns. The process of change could begin by explaining to the key figures in government what they would gain in terms of control over implementation by abandoning the outdated Soviet mechanisms. This could be followed by pilot projects with a few selected ministries, which would be used as a springboard for creating a new type of public service manager in Ukraine.


The machinery of government in Ukraine has changed little since independence. Neither in its structure nor in its approaches to management does it appear well suited for the task of creating and governing a modern market economy. While some initial successes have been achieved, economic transformation in Ukraine may become constrained by the institutional deficiencies of its system of governance. Reform in this area appears to be an important condition for the success of market reforms.

*The analysis in this paper is indebted to the public sector reform work undertaken by the New Zealand Treasury. See The Treasury, 1987, Government Management, Brief to the Incoming Government (Wellington, New Zealand: Government Printing Office).
1The new constitution, passed on June 28, 1996, limits the number of vice-premiers to four (including a first vice-premier).
2A proportion of the budget is determined exogenously, for example, external debt service.

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