Ukraine Seeks New Russia Gas Deal as Military Tensions Rise

(Bloomberg – bloomberg.com – Elena Mazneva – June 9, 2015)

Ukraine needs to negotiate a new natural-gas deal with Russia just as the conflict between the two countries risks escalating again.

A gas-price agreement with Russian exporter OAO Gazprom expires at the end of the month and Ukraine requires fuel to replenish stockpiles before the winter. At the same time, a truce between the government in Kiev and pro-Russian rebels appears to be breaking down after fighting near the eastern city of Donetsk killed more than 20 last week.

Another “bloody clash is very possible in the coming weeks — as a provocation — amid talks on extending sanctions against Russia,” said Vasily Kashin at the Center for the Analysis of Strategies and Technologies in Moscow. “That’s a threat for a gas pact.”

Gas has been a key element in Russia’s troubled relationship with Ukraine, which still relies on its larger neighbor for about half of its supply. The issue is also critical to Europe’s energy security because about 10 percent of the region’s supply passes through Ukraine’s pipelines.

Europe might face a risk of disruptions this winter — similar to 2006 and 2009 — if Russia and Ukraine can’t reach a deal, said Alexander Paraschiy, an analyst at Concorde Capital in Kiev.

If Russia ends the current discount it gives Ukraine, it would make it hard for Kiev, which is struggling to meet its international debt obligations, to pay for gas. Alternative supplies from Europe are unlikely to be able to fill the gap, especially given Gazprom’s ability to influence flows within Europe.

Coldest Months

If the situation escalates, Ukraine might be forced to take the gas Russia ships through its pipelines to the European Union during the coldest winter months, Paraschiy said.

“If the dispute continues in the heating season, Ukraine would have to take the EU-bound gas,” Paraschiy said. The country will need even more gas than last year because its coal stocks are lower, he said.

Ukraine’s state gas company, NAK Naftogaz Ukrainy, had 10.7 billion cubic meters of gas in underground storage last week, while the level should be at least 19 billion, according to the Russian Energy Ministry.

Russia and Ukraine filed claims against each other in international arbitration last year over gas supply and transit contracts in place through 2019, awaiting for a ruling next year at the earliest.

Economic Crisis

State-run Gazprom claims its Ukrainian counterpart owes $29.5 billion, while Naftogaz demands more than $16 billion from the Russian company.

Still, Simon Pirani, a senior research fellow at the Oxford Institute for Energy Studies, said the ability of Ukraine to import gas from Slovakia, coupled with the impact of the economic crisis on demand, mean Ukraine may be able to cope without Russian gas, especially in a mild winter.

Russia’s gas supplies to Ukraine, halted for almost six months last year, proceeded after the EU mediated two interim deals between the countries, which allowed the gas price to fall to a level close to the average in Europe.

Russia is still considering whether to extend the current pact through the third quarter or to the end of the year, Russian Energy Minister Alexander Novak said last week.

Ukrainian President Petro Poroshenko warned on June 4 of a”full scale” Russian invasion in eastern Ukraine, an allegation denied in Moscow.

While the EU, Russian and Ukrainian officials will discuss extending the gas agreement later this month, a final decision would depend on the government in Moscow, Novak said.

Much will depend on the effectiveness of EU diplomacy now, according to Paraschiy.

“The European Commission faces a difficult task — to study all risks and put pressure on Ukraine and Russia to prevent disruptions in energy supplies,” Paraschiy said.

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