Dispatch January 2009

Russia and Ukraine: Cold Snap

Much more than just a disagreement over prices is pushing Moscow to take a hard line in its gas dispute with Kiev

Late on January 8th, after intensive European mediation, Russia and Ukraine concluded an accord that should get Russian gas flowing again to the sixteen E.U. member states that have been largely left out in the cold since New Year’s Day, when Russia began reducing the flow of gas through Ukraine, with the final cutoff coming on January 6th. The deal leaves unresolved the key issues – prices and transit fees—that ostensibly provoked the row in the first place. But the deal’s stipulation that E.U. observers must henceforth monitor the pipelines has, for now at least, sufficiently satisfied the Russians, who say that they will resume shipments. So, within a few days, once monitors are in place and the pipelines can be repressurized, Russian gas should begin surging westward.

But Russian Prime Minister Vladimir Putin has made clear that this should not be regarded as a capitulation. And there are signs that the dispute is far from settled. Indeed, an anonymous Ukrainian diplomat told the Washington Post this week that the agreement is only temporary, and that, “We will not let our people freeze because Europeans are a little bit cold." The upshot is that the crisis is not over; Russia and Ukraine are playing hardball, and Europeans are suffering as a result.

This is the second major hydrocarbon pricing squabble between Moscow and Kiev in recent years. The gas spat of New Year’s 2006 was only settled after Moscow turned off the taps for three days, resulting in minor shortages downstream in Europe. The current crisis has already lasted nearly two weeks, and has led to a total cutoff of Russian gas to Europe. Given the inevitable PR troubles that were bound to follow a stoppage of heating fuel supplies to Europe during a brutal cold wave, what can Russia have been thinking?

The relevant fact are as follows. Gazprom, the largely state-owned Russian gas monopoly, pumps 80 percent of the gas that it sells to the European Union (its highest-paying customer) through pipelines that were laid across Ukraine during the Soviet era. As the expiration date for Gazprom’s 2008 contract with Ukraine’s state gas company (Naftogaz) approached, negotiations faltered. Naftogaz rejected Gazprom’s proposed 2009 price hike, which would have more than doubled the price from $179.50 per thousand cubic meters of gas to $418. Naftogaz instead offered to pay $201. In response, Russia cut its price to $250, which Putin dubbed “a humanitarian gesture,” made in awareness of Ukraine’s deepening economic crisis, and pointing out that real-world gas market prices are roughly double that amount. (Though for years it has warned former Soviet republics that it would start billing them at market rates, Russia has continued to subsidize Ukraine, Belarus, and Moldova with cheap gas.) Ukraine balked at $250, and counter-offered $235. At this point Gazprom abruptly reinstated its previous quotation of $418 per 1,000 cubic meters.

In the midst of this impasse, Kremlin bells rang in the New Year. Since no agreement had been reached, Russia reduced the flow of gas it pumped to (and across) Ukraine by the amount previously slated for the Ukrainian market. Yet gas continued to heat Ukrainian homes and fuel their stoves. (Certainly it did in Kiev, where I was at the time.) There was a simple explanation for this. As Gazprom boss Aleksey Miller informed Putin in a televised conversation on January 6th (which is Christmas Eve by the Russian Orthodox calendar), Ukraine was “stealing” 15 percent of the transshipped gas, and the percentage was rising “hour by hour.” (Ukraine responded that it was only collecting “transit fees” in kind.) Never one to issue an empty threat, Putin, who had already warned Ukraine of “severe consequences” should it interfere with Gazprom deliveries to Europe, promptly announced that Russia was turning off the gas. Eastern Europeans thereupon began freezing in their homes, and diminished gas flows were perceptible as far away as France and Italy. As bad as things were, they might have been worse had some European countries not mandated increased gas stocks to meet such an eventuality in the aftermath of the 2006 crisis.

As for the compromise deal that was eventually struck on the 8th, it does not specify how much Russian gas will cost Ukraine this time, but in a phone call on January 7th, Russian President Dmitry Medvedev told Ukrainian President Viktor Yushchenko that, “For the resumption of natural gas supplies to Ukrainian consumers, it is necessary to conclude a new contract between Gazprom and Naftogaz at the market European price without discounts and privileges.” If that’s true, then Ukraine has badly overplayed its hand. Just as its economy is tanking, Ukraine may have lost vital Russian gas subsidies.

Why, one might ask, was Putin, the final arbiter of Gazprom’s actions, willing to jeopardize relations with the E.U. – Gazprom’s largest and best-paying customer – in order to settle a seemingly routine pricing dispute with Ukraine? Putin has not expounded on his motives, but the geopolitical calculus by which he must have operated could hardly be more evident. Yushchenko’s aspiration to enroll his country in NATO, and his fervent public support of Georgian President Mikheil Saakashvili (also a NATO aspirant) during last summer’s Russia-Georgia war, surely played into Russian decisions about which former Soviet republics to favor with cheap gas. According to Putin’s calculus, Why should Russia help finance the economy of a sizable, strategically located country on its southern flank that is striving to join the West’s preeminent military bloc against it? (For a detailed exposition of Russia’s stance vis-à-vis Ukraine and NATO, see my Atlantic dispatch of September 8, 2008, "The Next Flash Point: Ukraine.")

Despite the fact that NATO wisely decided during its December 2008 summit not to offer Ukraine a Membership Action Plan, the alliance still intends to induct the country at some point. Moreover, on December 19, just as negotiations between Gazprom and Naftogaz were heating up, Condoleezza Rice flew to Crimea to sign a Charter on Strategic Partnership, intended to "strengthen Ukraine's candidacy for NATO membership" by “enhancing training and equipment for Ukrainian armed forces." This Charter can only have provoked Moscow’s ire and emboldened Kiev to take a tougher stance in talks with Gazprom. Surely this move is partly to blame for the current gas mess.

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Jeffrey Tayler is an Atlantic correspondent living in Moscow.

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