Energy: Russia and the Ukraine

Fact Sheet

"Why would you want to always depend on our transit agreements with Ukraine, or Belarus, or Poland? I was shocked, simply shocked by the fact that [politicians] in Germany, or other European countries could not see their own interests.”

VLADIMIR PUTIN, July 13 2006

Context

Russia has established itself as a highly reliable and responsible energy provider. For the last 40 years, Russia has exported energy to European markets through Ukraine without ever contravening its contractual obligations. This record rivals that of any other energy provider in the world.

Russia has traditionally supplied gas at a heavily subsidised rate to Ukraine. Fifteen years after Ukraine gained independence, Ukraine was paying about one fifth of the market rate for gas. It meant that Russian consumers were in fact paying more for household gas than their Ukrainian neighbours.

In 2005, Russia was supplying gas at US $50 USD per 1,000 cubic meters compared to the market rate of about US $230. This subsidy amounted to over US $3 billion a year.

The World Trade Organisation has made the restructuring of gas prices to world market levels a condition of membership. The WTO - which Russia has applied to join – has stated that special price regimes are a violation of competitive principles. It has also stated that post-Soviet states should pay market prices as a mechanism for improving their own economic efficiency.

Jean Lemierre, the President of the European Bank for Reconstruction and Development (EBRD), said recently: “The Ukraine cannot think it will always have cut-price gas. It must prepare for the reality of higher-cost energy”

Gazprom has been participating in long-running negotiations with Ukraine to develop a more equitable, market-based pricing regime. Detailed and protracted talks have been taking place for a number of years focusing on adjusting prices towards market levels and agreeing the mechanism by which Russia pays for transmission.

Gazprom is motivated by financial imperatives, not political considerations. Ukraine is not a special case. Armenia, Georgia, Moldova, and Baltic states have all been involved in negotiations that have resulted in gas prices increasing significantly. On 30 March this year, Gazprom announced that Belarus will have to pay market prices for gas starting in 2007.

By the end of 2005, it became clear that Ukraine had been systematically stealing gas supplies destined for European markets. On the single day of 1 January 2006, 100 million cubic metres of gas, valued at US $25 million, were re-diverted without permission. Ukraine has flatly refused to sign any documents that would allow comparison of the bulk of gas entering Ukraine from Russia and issued from Ukraine to the EU.

As the dispute intensified in December 2005, Ukraine threatened to use Russian gas destined for European markets as a transit charge. At the same time, Ukraine refused in its negotiations to pay more than US $80 per 1,000 cubic metres of gas – well below market value.

Last-ditch efforts by President Putin to resolve the crisis through price increases or an immediate loan were rejected. As a result of continued non-payment, the stealing of gas and the threat to disrupt supplies to its European markets, Gazprom halted its supplies of gas to the Ukraine on 1 January 2006.

The current situation

On 4 January 2006, Gazprom and Ukraine’s energy counterpart reached an agreement to end the dispute. In effect, gas prices were doubled, but Ukrainian transit fees were also increased, offsetting the increase in cost. Under the five-year contract, prices were set for the first six months, with an agreement to revisit the price issue in late June 2006.

Ukraine has not been paying the agreed price for Gazprom’s gas supplies. Continued non-payment of energy currently amounts to over US $800 million – a situation that threatens to provoke another crisis.

Lost income to Federal Russian revenues through non-payment equates to over US $160,000,000 per month, US $5,300,000 per day, US $220,750 per hour, or US $3,680 per minute.

Although a leading industrialised nation, Russia faces real economic and social challenges. In our efforts to eradicate poverty in Russia, we cannot afford to lose out on significant revenue from the sale of its commodities.

Gazprom is once again negotiating with its Ukrainian counterpart as part of its January agreement. It seeks to do so in a spirit of constructive co-operation, with the aim of determining a fairer market value price – to guarantee European energy supply and maximise the opportunity for Russian and Ukrainian economic development. But there are indications that Ukraine is not stockpiling enough gas in its underground facilities for the coming winter, heightening fears of a renewed energy crisis.

To achieve a real and sustained solution, Ukraine needs to guarantee payment of existing debts and engage constructively with Gazprom as a reliable and responsible partner.