How Ukraine can become a European Silicon Valley

Kyiv at night. Photo by Sergei Ristenko 

Science and Innovation

Article by: David Kirichenko

As technological change sweeps the world, nations with developing economies, such as Ukraine, are seeking to advance. To become engines of innovation, investment, and wealth creation—and not simply make do with lower-end economic activities—the country needs to establish innovation systems and business environments designed for its modern sociopolitical climate.

Ukraine has a lively tech sector and a promising startup scene. However, there are various reforms that need to be implemented to improve the innovation economy in Ukraine. With an emerging anti-corruption administration under Volodymyr Zelenskyy, world-class tech talent, and an economy poised for growth, Ukraine aims to attract new businesses and investments into the country. With a large base of highly skilled technology professionals and a highly-developed IT sector, Ukraine’s economy has ideal qualities for becoming a prominent European tech hub. Currently, investors have little faith in the Ukrainian market due to political corruption and conflict. Consequently, tech firms and Ukrainian investors seek business in other countries.

To attract new investors to the Ukrainian technology sector, the government should aim to reduce political corruption and promote better investment opportunities for Ukrainian entrepreneurs.

Additional government policies should include reforms in the educational system, labor market reforms, and the encouragement of domestic competition. These sociopolitical reforms would enable Ukrainian tech companies to attract investors and to compete with foreign tech companies.

Impact of war and international politics on Ukraine’s startup and tech scene

Today, the ongoing war in Donbas, the eastern region of Ukraine, has displaced more than 1.5 million people and caused more than 10,000 civilian casualties. This conflict between Ukrainians and Russian-backed militants has been taking place for six years. Moreover, the Russian government is conducting a hybrid war fueled by Russian propaganda, which is permeating far beyond Eastern Ukraine. This propaganda targets the media, courts, civil society, and even the government, with the intent of undermining Ukraine’s fragile democracy.

Media coverage on Ukraine seems to focus primarily on political issues, such as the Russian invasion of Ukraine or Donald Trump’s impeachment scandal. However, there are also positive aspects regarding Ukraine that have unfortunately been overshadowed by such issues. One positive aspect is that the startup and technology scene in Ukraine is constantly improving. Despite the country’s high inflation and stagnant economic growth, Ukraine remains poised to become a tech powerhouse and Ukrainian startups are constantly emerging.

Ukraine’s current tech scene

Ukraine also has one of the largest numbers of highly qualified programmers in the world. According to daxx.com, Ukraine has the 2nd largest number of programmers in Eastern Europe, with a total of 184,700 as of February 2020.

IT is now the third-largest export in Ukraine behind agriculture and mining

This is likely a result of Ukraine’s robust higher education system, as – according to a report by Ukraine Digital News – 36,000 students graduate with a technical degree every year. The reason for such a high number of IT and tech experts is also partially due to the low costs of education and the number of Ukrainian educational institutions. Tuition fees in Ukraine are significantly lower than in the United States and some European countries. There are also over 650 higher education institutions in Ukraine; 200 more universities than Germany, despite the fact that Ukraine’s population is half the size of Germany’s population.

There is a discrepancy between the demand for IT services and the number of qualified university graduates that the country is producing. While the country does have a robust amount of universities, many students have shifted into studying humanities, rather than STEM fields. This is a significant reason why the former Ukrainian Prime Minister, Oleksiy Honcharuk, launched the IT Creative Fund to train new IT specialists. This initiative was a small but important step in generating a greater supply for the demand for IT services in Ukraine. As a result, more foreign firms are offshoring IT jobs to Ukraine.

The boom of IT companies and developers within the last decade was also partly due to good government policies. In addition, the government also canceled the value-added tax (VAT) for IT companies and reduced their employee income tax rate to 5%. This is appealing to both foreign companies and domestic IT specialists because it allows them to maximize their profits.

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This case is corroborated by research conducted by StackOverflow, which found that

there are approximately 166,000 software developers in Ukraine, constituting 35% of the entire Central and Eastern European engineering talent pool.

According to PwC, the country’s annual economic output coming from IT outsourcing grew fivefold between 2011 and 2015.

As a result, IT is now the third-largest export in Ukraine behind agriculture and mining.

Enterprise companies are also attracted to Ukraine because of the low cost of wages. Upwork, the world’s leading online freelance site, ranks Ukraine as the third-best country in the world to find people with advanced tech and IT skills, as these workers are highly skilled and affordable. This ranking is justified, as many of Silicon Valley’s esteemed corporations are powered by developers out of Kyiv, Kharkiv, or Lviv.

In fact, the country was named No.1 “Outsourcing Destination” of 2017 by the Global Sourcing Association and has earned countless other honorable mentions across industry rankings.

Innovation in Ukraine’s startup and tech Scene

A Facebook post from the Kyiv office of Grammarly features creative remakes of the Grammarly logo

Despite the challenging economic and political issues, the IT scene in Ukraine is vibrant, growing, and shows promise for the future. It is one of the fastest-growing and one of the most profitable industries in Ukraine. Leading global tech companies (e.g. Samsung Electronics, Siemens, and Huawei) delegate portions of their research and development (R&D) operations to Ukraine.

Another example of innovation in the Ukrainian tech scene can be seen in Ring, a company that Amazon bought out for $1 billion. The startup, which develops smart home systems, has one of its largest development centers in Ukraine. Additionally, Ring has hired 500 Ukrainians and is aiming to have the company’s research and development center be hosted in Kyiv.

Furthermore, the Ukrainian startup scene includes a number of million-dollar buyouts by companies such as Apple, Facebook, and Snap. Some of the most prominent international tech giants – with significant R&D centers in Ukraine – include Looksery, Gitlab, Samsung, IBM, and Oracle.

Another case for innovation in the Ukrainian tech scene can be seen in Grammarly, which has been deemed the first Ukrainian “unicorn startup” – a startup that is valued at over $1 billion. Grammarly was also named one of the most innovative firms in the sphere of artificial intelligence in 2019, according to the American business magazine, Fast Company.

The progress of tech in Ukraine

Ukraine was a technology hub during the Soviet era, which facilitated the development of a strong STEM system. During this period, the Ukrainian Academy of Science consisted of 81,000 employees including 14,000 scientists.

Consequently, various technological advances emerged, ranging from aerospace technology to breakthrough solutions in medicine.

For example, Ihor Sikorsky, born in Kyiv, designed the first helicopters for full-scale production. Ukrainian-American researcher, Dr. Lubomyr Romankiw, created the first hard drive while working for IBM. His work paved the way for the creation of thin-film inductive and magneto-resistive micro heads for recording information. Ukrainian-born Ivan Pulyui helped design the gas-filled tubes, which were used in the first medical X-rays. The prototype of the CD was invented by Viacheslav Petrov during his time at the Kyiv Institute of Cybernetics in the late 1960s.

Kyiv has long been the main center of innovation in Ukraine. Since 2019, Kyiv has risen by 29 positions and now ranks 34th among the largest startup cities in the world, according to StartupBlink.

Kyiv is home to thousands of startups, product companies, and more than 100 software development companies. Its dominance in this field is due to a large number of universities providing top quality technical education and a multitude of tech graduates in the city.

Looksery, which provides technology for real-time editing of images and videos, is a successful Ukrainian startup with an R&D center in Ukraine

Home-grown Ukrainian startups are flourishing as well. Lookersy, a mobile imaging and AR company, was sold in 2015 to Snapchat for $150 million, and analytics startup, Viewdle, was sold to Google for $30 million.

Also, for the first time in Ukrainian history, investments in Ukrainian startups and IT companies have reached a half-billion mark in a year. The total volume of venture investments into Ukrainian IT companies has reached $510M, which is 150% more than the amount reached in 2018.

Angel Investments has increased almost sevenfold between 2018 and 2019, increasing from $0.9 million to $6.1 million. Ukraine is strengthening its position in the global tech arena every year by increasing the volume of investments attracted from around the world and becoming an R&D hub for foreign companies.

However, Ukrainian startups often struggle financially. With regard to investment in the IT sphere, Ukraine still has a long way to go to match modern-day digital investment leaders. For instance, according to Max Yakover (managing partner and CEO of UNIT.City), 150,000 Ukrainian IT engineers receive a total of $265 million in investment each year, while 120,000 Israeli IT engineers attract $5.2 billion in investment yearly.

This lack of investment is not the only problem facing startups. At the initial stage, domestic sources of financing are helpful. However, the average interest rate for business loans in Ukraine is roughly 25%, a remarkably high rate. This results in financial complications for entrepreneurs looking to scale their business. Nevertheless, these problems are merely the tip of the iceberg in relation to the challenges faced in the Ukrainian tech industry.

Challenges to the Ukrainian tech industry

Regarding the “ease of doing business,” Ukraine is rated No. 76 in the world – a big leap from the staggering No. 152 from 2014, but still behind other Eastern European countries, like Moldova, Romania, and Poland.

According to the World Economic Forum, inflation, corruption, and policy instability have been the most problematic issues for businesses in Ukraine. Its public institutions, legal systems, intellectual rights, and property rights are meager compared to most countries.

Tech firms in Ukraine have borne the brunt of illegal and intrusive searches by law enforcement for years. There are many cases of the police confiscating corporate computers, servers, office equipment, and even personal laptops, sometimes causing firms to temporarily freeze their operations.

Another problem facing the Ukrainian tech industry is its brain drain. As corruption and war continue to diminish the living standards in Ukraine, large numbers of citizens are expatriating to seek better opportunities abroad.

In 2015, 9.6% of Ukrainian IT engineers moved abroad, while more than 22% of Ukrainian IT specialists consider moving abroad. It is estimated that, since 2001, as many as one in 15 Ukrainian citizens are working abroad at any given time.

Deputy Prime Minister, Hennadiy Zubko, has referred to the exodus as “one of the greatest threats facing Ukraine after military aggression.” A former head of the foreign intelligence service also recognized the severity of the situation, as he referred to this issue as “a national tragedy.” In 2019, Ukrainian Foreign Minister, Pavlo Klimkin, declared that 100,000 people were leaving the country every month and the country is facing dire straits as a result.

In addition to the brain drain, the corruption in Ukrainian universities also limits the development of Ukraine’s skilled labor force. The corruption degrades the quality of education and certifications since students are able to bribe the university in exchange for a degree. Other examples of bribery include – but are not limited to – admission (regardless of qualifications) and plagiarism. Some Ukrainian government officials have even been exposed to possessing counterfeit university diplomas.

Quality education is essential for innovation, effective initiatives, and competition – all of which have a direct influence on economic and national security. Human capital is a country’s greatest asset, but Ukraine has failed to provide quality education for its population and abolish corruption in the education sector.

According to a research article conducted by Transparency International in 2008, almost 50% of university students in Ukraine mentioned that some sort of bribe had been requested from them, and almost 30% of the students had paid the bribes. The corruption in the Ukrainian education system is likely due to the fact that salaries for teachers and professors are very low when compared to other professions.

Ukraine also has outdated and rigid labor regulations, some of which date back to 1971. High labor taxation and unclear labor regulations enable many individuals in the workforce to engage in informal work practices. As stated in the book, Skills for a Modern Ukraine, between 2010 and 2015, Ukraine made over 30 amendments to its labor code. However, few were intended to improve the structural issues that impacted job creation and retention.

Ukraine has a steady net capital outflow of approximately 4% of GDP each year. However, due to the socioeconomic complications in Ukraine, real foreign direct investment has been as little as 1% of GDP in the past five years. In addition, the war has caused investors to leave the country at alarming rates. As a result, there is very little financing available for any small or medium-sized businesses in the country.

Future directions for Ukraine’s tech and startup scene

As technological innovation sweeps the world, nations with developing economies are seeking to advance.

To become engines of innovation, investment, and wealth creation – and not simply make do with lower-end economic activities – countries like Ukraine need to focus on establishing innovation systems and business environments designed for its times and modern climate.

Despite the many challenges that Ukraine faces (faces severe corruption, war, lack of investors, etc.), Ukraine has the potential to become a European Silicon Valley

The capacity for nations to innovate is becoming increasingly critical. Ukraine desperately needs to draw entrepreneurs, freelance developers, and innovators into the economy. This will allow the country to take advantage of innovation resources and pursue commercial opportunities, thus diminishing Ukraine’s black economy. The black economy in Ukraine was 47.2% of its GDP in 2018, an increase from 46.8% in 2017, according to research conducted by the Kyiv International Institute of Sociology.

Additionally, the Ministry of Economic Development claims that, in 2017, the black economy constituted 31% of the official GDP. While this is 4% less than in the previous year, there are still many steps that must be taken before overcoming this issue.

Ukraine offers the world’s cheapest broadband internet, according to new research conducted by Cable.co.uk, with a broadband internet package costing exactly five US dollars per month. These low prices are due to a lack of government regulation, thus causing Internet companies to lower their prices to maintain a competitive advantage.

Hence, the Ukrainian government should capitalize on this to attempt to amend the economy by encouraging investment and innovation in Ukraine’s tech industry.

While initiatives, such as the IT Creative Fund, helps to support a booming tech industry, with growing demand from foreign firms, the initiative does not provide the skills that are needed to contribute to the innovation economy (e.g. coding, data science, and computer-aided design). To resolve this issue, the Ukrainian government should aim to offer more schooling pertaining to these skills – ideally free courses online – and include this in the national education system.

Investment in the tech and startup sector would contribute greatly to the growth of the middle class in Ukraine and improve their overall standard of living. Additionally, these investments would encourage citizens to push for increased transparency and promote reforms to help contend with corruption. This illustrates the resilience of Ukraine, but also demonstrates its potential, should the government continue to manage its domestic and foreign complications.

Despite the many challenges that Ukraine faces (faces severe corruption, war, lack of investors, etc.), Ukraine has the potential to become a European Silicon Valley. The country has the capacity to create the tech giants of tomorrow, with significant factors being: strong tech education, a massive talent pool, and a thriving startup ecosystem. Hence, it is not a question of whether Ukraine will become a hub for startups, but when should the right steps be taken by Ukraine’s leadership to build innovative systems and business environments designed for the 21st century.

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