UPDATE 2-Ukraine's economy in worst contraction in 15 years

* Worst contraction in 15 years masks shaky recovery

* Growth could help government meet debt through revenues

* Banking sector makes worst losses on record in 2009

(Adds analysts, details, data on banking sector losses)

By Sabina Zawadzki

KIEV, Feb 16 (Reuters) - Ukraine’s economy shrank 15 percent in 2009 -- the worst contraction in 15 years -- hit by a dramatic drop in steel exports as global demand waned during the financial crisis.

But as the economy tumbled, politicians were focused on a power struggle, which culminated in a bitterly-fought presidential election this month.

The preliminary estimate published by the economy ministry on Tuesday is exactly in line with a forecast from the International Monetary Fund, which has had to come to Ukraine’s aid with a $16.4 billion bailout. That programme was suspended at the end of last year over broken budget promises.

The figure, however, is worse than a median of 14.0 percent in a Reuters Poll of analysts taken earlier this month and the 12.5 percent predicted by Economy Minister Bohdan Danylyshyn at the end of last year. [ID:nLDE61423L] [ID:nLDE5BH0W9]

Quarterly figures released a day earlier showed signs of a fragile recovery -- the economy shrank 7 percent in the fourth quarter year-on-year, the smallest drop last year. The largest was just over 20 percent in the first quarter.

The economy grew 2.1 percent in 2008.

Although the government does not now publish quarter-on-quarter data, the central bank said Ukraine emerged from recession in the second quarter of 2009 when it grew 4.5 percent after a drop of 12.9 percent in the first quarter.

Signs of recovery are welcomed as Ukraine struggles to pay its debts.

A deputy finance minister on Monday raised the prospect of short-term domestic debt getting out of hand as it is forced to issue more of at skyhigh yields to cover recently-issued debt falling due. He proposed borrowing abroad. [ID:nLDE61E1YN]

But “people could be discounting the additional factor” of economic recovery, said UniCredit economist Dmitry Gourov.

“If the economy continues to improve then the treasury will have more finances available and would have to borrow less to pay debt back. The export sector is improving,” he said.


Analysts have long said reliance on steel -- a legacy from the Soviet days -- dictates the fate of the economy and until structural reforms are introduced, the country will continue to swing with the price of metals.

“Steel is a particularly bad commodity from the credit perspective because every time there’s a credit crunch, people stop buying cars and houses,” said Commerzbank analyst Dmitry Sentchoukov.

Few believe President elect Viktor Yanukovich, backed by wealthy industrialist and steelmen from the eastern regions, would usher in a period of such fundamental reforms.

“So the medium term outlook is not really positive because there’s high probability of Ukraine meeting the next crisis with the same reliance on steel and a higher debt load when a blank cheque from the IMF may not be available,” Sentchoukov said.

The fall in exports prompted a sharp fall in the hryvnia -- it lost over half of its value to the dollar at the end of 2008 when the economy began to slide and traded at only slightly stronger levels last year thanks to central bank intervention.

That fall also shook the banking sector to the core as companies and ordinary Ukrainians who borrowed in dollars suddenly could not afford to repay their debts.

Data from the central bank issued on Tuesday showed the banking sector as a whole made its biggest losses on record -- 31.5 billion hryvnias ($3.9 billion) in 2009 against overall profits of 7.3 billion hryvnias in 2008.

The economy is expected to return to growth this year with estimates at 2.6-2.7 percent from the World Bank and the IMF. Danylyshyn said GDP could grow by as much as 3.7 percent.

But some analysts are pessimistic.

“Given that the banking sector is still very fragile and banks are providing very few loans to the real sector at affordable rates, we maintain our conservative 2010 GDP forecast of 2.1 percent,” Renaissance Capital said in a note.

Ukraine, once the breadbasket and industrial powerhouse of the Soviet Union, gained independence in 1991. But its economy is still recovering from that shock -- its size in 2008 was only 74 percent of what it was in 1991. (Reporting by Sabina Zawadzki; Editing by Ron Askew)