Posts tagged ‘energy’

10 January 2009

Ukraine and Gazprom

Very spirited debate on the Gazprom-Ukraine dispute on Johnson’s Russia List, a must-have source for all interested in Russian affairs. In the red corner, we have Peter Lavelle, political commentator, arguing that the dispute is first and foremost an economic issue. In the blue corner, we have Ian Hague, fund manager specialising in Russia and the CIS, arguing that the dispute is solely a political issue.

Warning: long — but highly entertaining and informative — texts coming up.

Post 1: From Peter Lavelle, published on RFE/RL (surprisingly to me, since it contradicts their usual very strong position on Russian and CIS affairs). 6 Jan 2009.

‘Gazprom Simply Wants To Get Paid’

It would appear to be an annual event: At the end of each year and the start of the next, Russia and Ukraine have a nasty natural-gas dispute.

Moscow is adamant that it will not resume gas supplies to Kyiv until arrears are paid and a new contract reflecting world gas prices is signed. Kyiv remains defiant, hoping the European Union will eventually step in to mediate.

This is the last thing Brussels wants at this point, but there is a sense of urgency that the EU must admit that its energy security is threatened by Ukraine. In the meantime, gas supplies to Europe are being interrupted.

As of January 1, Russia had no contract to sell natural gas to Ukraine. Without a contract, the export gas monopoly Gazprom is not only under no obligation to continue supplies, it also has no legal basis to do so. Thus, Gazprom was given no choice — it had to cut supplies (and lose revenues in the process).

The energy giant has made it clear that it will honor its contracts with European consumers and there is no evidence that it has failed to do so. As Ukraine is the transit country for 80 percent of Gazprom’s natural gas to Europe, it is Kyiv that must shoulder complete responsibility for any shortages experienced by Gazprom’s consumers.

A great deal of the commentary on the current dispute — as has been the case for the past few years — has focused on the tense relations between Moscow and Kyiv. There can be no doubt there are political undertones to the current dispute. Russia has made it clear that NATO membership for Ukraine would pose an existential threat to Russia. The fact that Kyiv sold arms to Tbilisi at discounted prices definitely heightened tensions. But at the end of the day, these gas disputes are all about commercial relations and irrefutable energy realities: Gazprom simply wants to be paid.

Ukraine continues to purchase subsidized gas from Gazprom. Last year the price for 1,000 cubic meters was $179.50. In contrast, Gazprom’s European customers pay up to $500 for the same amount of gas. Before Ukraine’s 2008 contract with Gazprom expired, Kyiv was offered a new price for 2009 — $250 per 1,000 cubic meters.

By any standard this was a very generous offer. To top this off, the transit fees Gazprom must pay Ukraine to get its product to market in Europe would also have been increased.

Kyiv rejected this deal. And it owes Gazprom hundreds of millions of dollars for gas supplies and penalties. In response, Gazprom made a new offer: Kyiv would have to pay $481 per 1,000 cubic meters in any future contract.

Getting Tough With Kyiv

The facts of this energy dispute speak volumes about Gazprom’s determination to force Kyiv to act responsibly.

First, the volumes: Gazprom sells about 55 billion cubic meters (bcm) of natural gas to Ukraine annually. This is compared to the 155 bcm sold to Gazprom’s European customers. Gazprom’s yearly production is about 610 bcm, and the Russian energy flagship purchases about 50 bcm annually from Central Asia.

Now for the dollars and cents of this dispute: In 2008, Gazprom sold Ukraine gas at a price of $179.50 per 1,000 cubic meters, totaling around $10 billion. Then consider the average price of about $400 to the rest of Europe. At this price, Gazprom’s annual revenue from the 155 bcm sold is about $65 billion.

Do the math: Gazprom earns more than six times the revenues for only three times the volume of gas by selling to Europe. This is an incredible shortfall in revenues for Gazprom and unfair to its other customers who pay market prices. Selling Ukraine gas at the same price paid by the rest of Europe would raise Gazprom’s revenues by about $12 billion annually, based on the 2008 sales volume. This figure would probably diminish slightly when factoring in the higher transit fees Gazprom is expected to pay Ukraine in any new contract. Nonetheless, Gazprom has a strong, compelling argument for its get-tough policy with Kyiv.

I have been covering the Russia-Ukraine gas disputes closely for years, and it is obvious to me that Kyiv is conducting a “the-worse-the-better” strategy. Ukraine is in dire economic straits and has been kept afloat by a $16 billion loan from the International Monetary Fund. Under these conditions, Kyiv desperately hopes Brussels will negotiate a better deal with Moscow on its behalf. Brussels should do just the opposite — demand Kyiv transit Russian gas purchased by European countries without hindrance or delay.

In the meantime, Brussels simply must get serious about developing a long-term and integrated energy policy for the entire bloc. This is what Gazprom has repeatedly requested — a European energy partner with whom it can speak with one voice and negotiate with without troublesome in-betweens like Ukraine.

Also, instead of fearing the “Russian energy bully,” Brussels should help Russia build the Nord Stream and other new pipelines. Ukraine is a thorn in Gazprom’s side. If Brussels isn’t careful, Ukraine will become a thorn for the EU as well.

Post 2: From: Ian Hague, Some questions for Peter Lavelle. 7 Jan 2009.

I normally don’t feel compelled to interject regarding the pieces you publish, but the little thing from RFE/RL by the RT-network “journalist” Peter Lavelle cries out for a response.

JRL readers are savvy enough to know that Ukraine is not blameless in the latest gas scandal: the Ukrainians continue to administer their gas network in the same politicized and flamboyantly corrupt, Soviet manner as public utilities throughout the former Soviet Union, so Russian government propagandists like Peter Lavelle are right to sense an opportunity to move European public opinion to see Kyiv as less of a victim in this latest go-round, especially as the Ukrainians have stored-in up to a month’s worth of supply for themselves this time and do not appear to be suffering. Given the most recent European Commission statements on the question, the Russians may even think that they are gaining ground.

However, Mr. Lavelle’s assertions about the primacy of commercial factors in this dispute are pure nonsense.

Lavelle asks readers to “do the math”. Economically-literate observers of the situation have done the math and they are baffled as to why Gazprom should think that $480-500/tcm is a “market” price for both Ukraine–which is right next to Russia–and for France, which is roughly the same distance from the Russian border as Omaha, Nebraska is from Portland, Oregon. Furthermore, if $480-500/tcm is the non-political “market” price for Ukraine, why does Gazprom say that for 2009 it will charge $140-160 per tcm to Belarus, which is even closer to the Yamal-based gas fields? Throughout the civilized world, the natural gas market is all about transport logistics. If the cost of transporting fuel is not factored in, there is no market-clearing price, period.

In economic terms, it is senseless to use the term “market” in the context of Gazprom’s pricing policies. They are about as typical an example of the market at work as Vern Troyer is an example of a New York Knick point guard. It flatters the Kremlin to think of its unreformed state-controlled monopolies as commercial entities, but they do not behave in such a manner. Therefore, the EU would be well-advised to change course and refrain from characterizing this latest debacle as a “commercial dispute”.

The real roots of this crisis lie in Russia’s desire to seek retribution against Ukraine’s Western-leaning government for assistance to Georgia during the Russian invasion and to influence the latest inter-elite leadership contest there.

Post 3: From Peter Lavelle in response to Ian Hague. 8 Jan 2009.

I am not in the habit of replying to individuals who are ill-informed and simply mean-spirited, particularly since I have far more important things to do. However, Ian Hague has publicly embarrassed himself on the JRL by showing just how uninformed he is regarding the Russia-Ukraine gas dispute and his politics of tarring people he disagrees with. (I must admit my reluctant respect for RFE/RL for publishing my article ­ not the most “balanced” news outlet on Russia ­ Hague could learn from its example of tolerance, openness, transparency and debate).

Before I reply to Hague’s “questions,” I want to respond to one of his personal attacks first. Hague describes me as a RT-network “journalist.” (His quotation marks). I am not a journalist. At RT, I am referred to as a “political commentator.” I am known for my views and I defend them openly and with great pleasure. I wear my stripes on my sleeve for all to see, hear, and read. RT does not tell me what to say ­ RT lets me say what I want to say. Those of you who are veteran readers of the JRL have been aware of my worldview and opinions for a very long time now.

As for Hague’s questions ­ well they really aren’t questions; they are challenges and a demonstration of extraordinary ignorance.

Hague challenges me on the issue of how to determine “market prices” for gas. Hague is surely aware that in Europe the “market price” for natural gas is approximately $400 and even up to $500 ptcm. I am not making up this price. This is what European energy companies cite and every financial institution I have had contact with from Moscow, London, on to New York. Hague shows himself to be “economically-illiterate” with his ramblings in the subject. They are not even worthy of replying to or discussing.

Then Hague makes his cardinal mistake, his blunder. He brings up the issue of what Belarus pays for Russian natural gas. This is what the naieve and the politically motivated do all the time. It is easy and very lazy to do this.

So Mr Hague, I will educate you (and still again remind the commentariat).

Mr Hague for some reason thinks a country’s location determines what country should pay for a commodity. Location does not always determine the price of a commodity. In the case of natural gas, transit does play an issue, however it is not the determining factor. And Belarus demonstrates this.

Belarus DOES pay lower prices for Gazprom’s gas than other European customers ­ for now. But it is not only because of politics. Those of us who carefully follow Russia’s energy policies and understand the nuances beyond the lazy and biased commentariat know why. (Hague, since you are an investor, I would have expected the same from you.)

The facts are following: Minsk, just like every other post-Soviet state, is very vexed that Gazprom has moved to using the market to determine commodity prices. The Soviet Union was the ultra-super lazy monopoly trading political influence for cheap prices. Today, Russia is doing just the opposite. Belarus has woken-up and smelled the coffee of new realities. Gazprom made a deal with Minsk: “You can’t afford market prices at the moment, then gradually sell your pipeline system to us up until you can pay the right price ­ we’ll give you until 2011 to do this.” Increasing Europe’s and Russia’s energy security will be the result. This is a policy of deferring the pain of opening up to the world today for a better tomorrow. And “politics” is taken out of the equation.

Ukraine needs to do something along the same lines. There is no reasonable, rational, or even business defined reason why Russia should subsidize a market competitor. (As a businessman like yourself, Hague you should know this.)

Mr Hague, you contend this is all about politics. Have you considered or are even remotely aware of the FACT that Armenia ­ a country very “friendly” to Russia ­ has conceded to paying market prices for imports of Russian natural gas? Location is not the issue, the price of a scarce and very much needed energy source is.

Hague’s parting comment is a real jewel of backward thinking and full of bitter political prejudice. Hague writes: “The real roots of this crisis lie in Russia’s desire to seek retribution against Ukraine.” Hague should read the JRL more ­ over the past few weeks and months Putin and Tymoshenko agreed to a process of having Ukraine pay “European market prices” for natural gas through time. This is an extension of the Belarus model.

Hague’s message on my post wasted his time and mine. At one time I was an investment banker in Eastern Europe and Russia. Only a fool like Hague can claim the natural gas showdown between Russia and Ukraine has nothing to do with a “commercial dispute.”

Hague – have you ever considered the following? I bet you any regime in Kiev would position itself to get the best deal possible from Gazprom ­ be it “Western,” “pro-Russian” or even “pro-Martian.”

Come back to Earth Mr Hague before you again write such nonsense about my studied work and commentary. I console you on losing so much money on your investments in the emerging market world. You didn’t lose money because of Russia or because of me. You lost money because you lost interest in business and economics.

Your defense of Ukraine’s INDEFENSIBLE energy policies only loses you even more money. It is you who peddles propaganda…

Follow

Get every new post delivered to your Inbox.