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Ukraine's Economy Caught Between West and Russia

NEW YORK (TheStreet) -- Ukraine has received a $27 billion financial lifeline from the International Monetary Fund.

Two other factors, however, could offset the effectiveness of this aid from the West: the economic reforms mandated by the IMF and Russia's control over everyday expenses in Ukraine.

The country is a pawn in Russia's new cold war with the West, and Russia's recent annexation of Crimea has heightened geopolitical tensions.

The agreement announced Thursday expedites transfers of funds, giving Ukraine a buffer to help pay for military costs should Russia push further into Ukrainian territory.

The agreement announced Thursday includes $14 billion to $18 billion in loans for two years, contingent on the country's ability to enact tough economic reforms. The IMF estimates those reforms, in combination with the aid, will prevent economic contraction of up to 10% this year. Ukraine  remains on the edge of bankruptcy, however, something new Prime Minister Arseny Yatsenyuk has reiterated to parliament the past few weeks.

The terms of the deal have also led the country to adopt a flexible exchange rate, something the IMF estimates could fuel inflation of 12% to 14% this year.

This move was made in an effort to stop Ukraine from depleting its foreign exchange reserves by propping up its currency, the hryvnia, and attempting to stave off public discontent over a declining currency.

Meanwhile, the cost of Russian natural gas could add significantly to Ukraine's inflation problem.

Russian leaders have backed an end to Ukraine's discount from Gazprom, Russia's largest natural gas company.

Ukraine has said it believes Moscow will charge Kiev as much as $480 per 1,000 cubic meters of gas starting April 1, instead of the current $268.50. That's a 79% increase.

The move could worsen Ukraine's economic woes and cause more political instability in the days leading up to the country's presidential election scheduled for May 25.

The West's priority in resolving the Ukraine crisis was to support the country financially, while isolating Russia from the rest of the world. What the West apparently failed to appreciate, however, is the extent of Russia's financial reach in the region.

At the time of publication, the author had no position in any of the funds mentioned.

Follow @macroinsights

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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