(MENAFN- AFP) The International Monetary Fund warned on Friday that the pro-Russia uprising engulfing Ukraine's economically-vital eastern rustbelt had delivered a "notable" blow that would shrink its economy faster than feared.
The Fund said upon completing its latest review of the pro-Western leaders' compliance with the terms of a $17.0-billion (12.6-billion-euro) two-year rescue that Ukraine was facing new headwinds that had not been envisioned when the programme was unveiled at the start of May.
It said the economy would probably contract by 6.5 rather the 5.0 percent initially forecasted because of revenue collection shortfalls in crisis-hit regions and higher spending on defence.
The IMF added that its programme's success now hinged not only on Kiev's ability to adopt urgent but unpopular belt-tightening measures but also "crucially on the assumption that the conflict will begin to subside in the coming months."
The Fund's country mission chief also complimented Prime Minister Arseniy Yatsenyuk's government for doing a good job meeting commitments that could see the quick release of a second loan tranche of $1.4 billion.
"The conflict is putting increasing strain on the program and a number of key elements of the macroeconomic framework have had to be revised," Nikolay Gueorguiev said in a statement.
"Economic prospects have deteriorated notably, and GDP is now expected to contract by 6.5 percent this year, compared to 5 percent when the programme was adopted," he said.
"A shortfall in revenue collections in the east, higher security spending, and lower-than-expected debt collection by Naftogaz will cause fiscal and quasi-fiscal deficits and financing needs to rise above the programmed path."
Gueorguiev added that higher-than-expected capital outflows were also putting the country's currency and budget forecasts in peril.
- 'End of Russian trade' -
The IMF review was completed before Europe's most explosive standoff in decades escalated further on Thursday with the downing of a Malaysian jet that Kiev blamed on rebels who allegedly receive covert shipments of sophisticated Russian arms.
The 298 people who perished on the Amsterdam to Kuala Lumpur flight came from around the world and brought down the wraths of governments stretching from the United States to Australia on Russia.
Some economists said the incident raised the chances of Washington and its European allies unleashing the most punitive economic sanctions against Russia to date.
"The Malaysian Airliner tragedy is a potential game changer," said Chris Weafer of Moscow's Macro-Advisory consultancy.
"In the US and Europe, the readiness to incur short-term economic costs and impose more punitive sanctions on Russia has probably gone up," Berenberg Bank economist Holger Schmieding added.
Russian President Vladimir Putin has warned that such steps could affect the fate of massive investments made by global energy giants in vast Siberian and Artic oil and gas fields.
But Ukraine's bigger concern is that Putin's anger will translate into restrictions on Ukrainian imports that Moscow had already warned about when Kiev signed an historic EU free trade agreement last month.
Yatsenyuk told a cabinet meeting on Friday that "we must prepare for a practically complete restriction of bilateral trade with Russia."
He said that Ukraine's loss of access to the Russian market would reduce annual exports by $5 billion - about seven percent of the country's total.
Russia receives about a quarter of all goods shipped abroad by Ukraine and Yatsenyuk failed to explain how came up with the figure.
"But Russia is not the only market in the world," the prime minister added. "The government must do everything to help diversify our sales markets over the short term."
The European Union estimates that the so-called economic portion of the Association Agreement it sealed with Kiev on June 27 would boost Ukraine's exports to the 28-nation bloc by 1.0 billion euros ($1.35 billion) this year.
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