Currency Substitution in Ukraine: Behavior of Households

Liberalization of foreign exchange regime and instability of national currency are among the major factors that shaped the level and strength of currency substitution in Ukraine. In this paper, a problem of currency substitution is addressed from the point of view of households. It is argued that the most conventional measure of currency substitution, namely the ratio of foreigncurrency denominated deposits to total deposits at a domestic banking system, is not obviously the best for households’ currency substitution in Ukraine. Cash transactions on retail foreign exchange market are proposed as a complementary measure. The paper presents a simply model of households’ demand for various types of financial assets constructed on the basis of a portfolio-balanced approach. It is demonstrated that the choice of assets depends on real income of households, as well as stability and credibility of financial system. It is stated currently Ukraine enters in the shrinking phase of the currency substitution, and the elaboration of reforms, in particular in banking sector, could be crucial for a further reduction of usage of foreign currency by households. Research for this publication was supported in part by a fellowship from the Economic Education and Research Consortium Ukraine Program (EERC), a program managed by the Eurasia Foundation. The opinions expressed in this publications are those of the author and do not necessarily reflect the views of the Eurasia Foundation or any member of the Economic Education and Research Consortium. All mistakes are mine. INSTITUTE FOR ECONOMIC RESEARCH AND POLICY CONSULTING