Economists have begun to use the concept of “constructive capital”. What it is and why it should become the basis of postwar reconstruction

Origin: Forbes.

The share of constructive capital (or transparent investment) in the Ukrainian economy is 34%, while corrosive capital is 46%, according to a report by the Center for Economic Strategy. Volodymyr Landa, senior economist at the Center for Economic Strategy, explains the impact of each on the development of the country’s economies and why it is necessary to prevent the inflow of corrosive capital.

Constructive capital is well-managed investment flows that serve transparent, market-oriented and measurable goals, both in terms of sources of financing and final destination. Its hallmark is the absence of a corrosion trail. It is constructive capital that should become an important component of financing Ukraine’s postwar reconstruction. But will it be enough?

Corrosive and constructive capital

The concept of “corrosive capital” was discussed after the report “Protecting Democracies from the Flow of Corrosive Capital” by the Center for International Private Enterprise (CIPE) in 2018. At that time, corrosive capital was defined as one that lacks transparency, accountability, and market orientation and originates from territories with authoritarian regimes.

Country-specific studies have shown its significant inflow. Ukraine was not mentioned in the document, but Russia was already noted as one of the most obvious representatives of corrosive capital, which is increasing its influence in the energy, financial and other sectors. The report identified China as another major donor of corrosive capital.

Forms of corrosive influence were also investigated, not only through foreign direct investment, but also through development assistance or commercial loans.

Since then, the concept of corrosive capital has evolved somewhat. Nowadays, the term does not necessarily refer to capital of foreign origin – oligarchic resources can be considered corrosive, among other things.

In contrast to corrosive capital, constructive capital is transparent and market-oriented.

Constructive Capital in Ukraine

According to a study by the Center for Economic Strategy, the share of private domestic constructive capital in the Ukrainian economy is only 22%. Another 12% is constructive foreign capital. Even when added together, these figures are significantly lower than the share of corrosive capital, which is estimated at 46% and includes both oligarchic and foreign corrosive capital, as well as other capital that is poorly managed or of non-transparent origin. The remaining 20% is held by state-owned and municipal enterprises.

Is there enough constructive capital in Ukraine? To answer this question, I would like to compare the share of constructive capital in Ukraine with that in other countries, in particular those that are worthy examples to follow. Unfortunately, no studies have been conducted in other countries to determine the share of constructive capital in the economy as a whole. However, two conclusions can be drawn now.

First, the prevalence of corrosive capital over constructive capital is not a sign of a sustainable economy. Second, the state’s share is still significant, and one of the objectives of privatization is to ensure that it promotes the development of constructive rather than corrosive capital.

Preventing the inflow of corrosive capital is an important measure to protect the economic environment, but it will not be effective without supporting the development of constructive capital within the country.

Advice for Ukrainian business

A series of interviews with representatives of Ukrainian constructive capital (a list of which can be found in the report) identified the key steps needed for its development in Ukraine. First and foremost, it is the establishment of uniform rules of the game for all and deregulation.

Other factors include the protection of property rights, judicial, customs and anti-corruption reforms, large-scale privatization, predictable tax policy and the introduction of a tax on exit capital, tariff liberalization, integration into the EU and NATO, and bringing the education system in line with labor market requirements.

At the same time, business is not inclined to shift responsibility solely to the state, recognizing the need for self-organization to obtain the desired conditions for development.

Public consent for effective reconstruction

The development of constructive capital in Ukraine will require answers to many difficult questions:

– Are we, as a country, ready to tighten capital requirements in a resource-constrained environment? In particular, should we impose barriers to corrosive capital invested in the Ukrainian economy, at least for the time being, during the acute shortage of resources for reconstruction?

– What path do we offer to capital that has an oligarchic origin but is willing to invest in recovery in accordance with international best practices?

– Should we consider constructive capital that adheres to the principles of sustainable development but operates in toxic industries?

These and other questions will require public discussion. The answers may be non-linear, but we will still have to find them.