Gazprom threatens to cut Ukraine gas ahead of Tymoshenko's likely return

By bne IntelliNews October 3, 2007

Roman Olearchyk in Kyiv -

In an announcement viewed as possible retaliation for the return of a pro-Western government in Kyiv, Russia's Gazprom announced on October 2 that natural gas supplies to Ukraine could be shut off this month for alleged unpaid debts.

The announcement also raises fears that reductions in gas supplies to Kyiv, whose vast pipeline system transports the majority of Russian gas westward, could once again trigger shortages in Europe, as during a price standoff in 2005-06.

"Gazprom has today notified its European partners of the existing problems in gas supplies to Ukraine," Gazprom said in a clumsily worded statement. "The debt of the Ukrainian side for gas supplied stands at more than $1.3bn. Gazprom has repeatedly raised this issue. But no real actions have been taken. In case this debt is not taken under control in October, Gazprom will be forced to reduce natural gas supplies to Ukrainian consumers."

Given that the debt Gazprom is referring to is not directly owed by Ukraine, but through a complicated structure of intermediary gas supply companies imposed on Ukraine after 2005 price dispute, some are suspicious of the timing.

The announcement came as the vote count in Ukraine's snap elections was nearly complete, suggesting that the fiery opposition leader Yulia Tymoshenko looks set to become Kyiv's next premier after winning a narrow pro-Western parliamentary majority that includes the bloc of President Viktor Yushchenko.

The return of Tymoshenko as premier, a post she held briefly in 2005, was always expected to strain relations between Kyiv and Moscow, as she has strongly criticised Russian influence in her country and Moscow even once had a warrant out for her arrest on charges related to of bribing Russian defence officials while she headed Ukraine's main gas distributor, the now-defunct United Energy Systems.

So does the Gazprom announcement immediately pose a serious challenge to Ms Tymoshenko's future government?

"From Russia's standpoint, it's time to make an impact. Although nothing can be done to change the results of the elections, this is sort of a way to send a signal to the next government that if Tymoshenko comes to power, expect things to get tougher," says Kaushik Rudra, a debt strategist at Lehman Brothers.

Her return as premier certainly seems likely. With most of the votes counted, the Moscow-friendly governing coalition of Yanukovich had virtually no chance of mustering a majority in parliament with their current allies, the communists and socialists. Preliminary vote counts showed that Yanukovich's Region's party finished with 34%, yielding them about 173 seats in parliament. Their allies, the communists, look to have about 27 seats (5.3%). The other coalition partners, the socialists, were unlikely to pass the 3% cut-off.

Tymoshenko's bloc made the biggest gain from previous elections, finishing second with more than 30% (157 seats). Tymoshenko, who backed Yushchenko in the 2004 presidential contest, reunited with the president this summer with the aim of ousting Yanukovich's coalition. Her bloc was expected to form a coalition with Yushchenko's bloc, which finished third with 14%. Despite probes into alleged vote rigging, observers and officials from the president's office said the overall election result was not affected.

Gas games

As it turns out, the debt Gazprom is referring to is not directly owed by Ukraine, but through a complicated structure of intermediary gas supply companies imposed on Ukraine after the 2005 price dispute. Back then, as part of the settlement to the dispute, Swiss-registered RosUkrEnergo, itself half-controlled by Gazprom and its Ukrainian business partners, inherited monopoly rights to supply Ukraine with gas. A joint venture, Ukrgaz-energo, was setup to take control of gas supplies to industry in Ukraine. Rosukrenergo and Ukraine's state owned gas and oil company, Naftogaz Ukrainy, took 50-50 interests in Ukrgaz-energo, which inherited monopoly rights to import gas to Ukraine from RosUkrEnergo.

Analysts said this deal put a squeeze on Naftogaz, once Ukraine's most profitable company. It was deprived of gas sales gas to industries, the best payers, leaving it with the less lucrative business of supplying households and state heating enterprises. As a result, Naftogaz found itself in a cash crunch. The company has increasingly borrowed on foreign markets, but still has not been able to make payments for gas bought from Ukrgaz-energo on time and in full. Its debt is said to currently exceed $3bn.

While damaging for Naftogaz, this trading scheme offered Gazprom a stake on the Ukrainian gas market. Tymoshenko has pledged to clean up this mess, which she describes as corrupt and untransparent. She has pledged to weed out intermediary companies such as RosUkrEnergo from the multi-billion-dollar gas trade between her country, Russia and Central Asia. Now she could find herself struggling to pay back debts incurred under the Moscow-friendly government of her predecessor, Prime Minister Viktor Yanukovich.

"We now see how dishonest Yanukovich's government was," Tymoshenko said on October 2. "We will do everything necessary to ensure that there will be no gas cut-offs. But let it be known, that the politics of Yanukovich led to such hazards."

In previous interviews, Tymoshenko has described the current gas trading scheme as a threat to the energy security of Ukraine and Europe. Ukraine's vast pipeline system pumps the lion's share of Russian gas supplies to Europe.

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Gazprom threatens to cut Ukraine gas ahead of Tymoshenko's likely return

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